After we have received regulatory licensing or approval for our products, numerous regulatory requirements typically apply. Among the conditions for certain regulatory approvals is the requirement that our manufacturing facilities or those of our third-party manufacturers may need to conform to current Good Manufacturing Practices or other manufacturing regulations, which include requirements relating to quality control and quality assurance as well as maintenance of records and documentation. The USDA, FDA, EPA and foreign regulatory authorities strictly enforce manufacturing regulatory requirements through periodic inspections and/or reports.
To date, we or our distributors have sought regulatory approval for certain of our products in Canada, which is governed byfrom the Canadian Center for Veterinary Biologics, or CCVB; in Japan, which is governed byCCVB (Canada); the Japanese Ministry of Agriculture, Forestry and Fisheries, or MAFF; in Australia, which is governed byMAFF (Japan); the Australian Department of Agriculture, Fisheries and Forestry, or ADAFF; in South Africa, which is governed byADAFF (Australia); the Republic of South Africa Department of Agriculture, or RSADA; in Hong Kong, which is governed byRSADA (South Africa); the Agriculture, Fisheries and Conservation Department, or ADCD; in Macau, which is governed byADCD (Hong Kong); the Macau Animal Health Division of Animal Control and Inspection, or IACM;IACM (Macau); the Spanish Ministry for Agriculture, Fisheries and Food; and from the relevant regulatory authorities in certain other countries requiring such approval.
Our market is intensely competitive. Our competitors include independent animal health companies and major pharmaceutical companies that have animal health divisions.divisions as well as human health companies. We also compete with independent, third-party distributors and suppliers, including distributors and suppliers who sell products under their own private labels. In the point of carePOC diagnostic testing market, our major competitors include IDEXX Laboratories, Inc. ("IDEXX"), Abaxis, Inc. ("Abaxis") and Zoetis Inc. ("Zoetis"). Each of IDEXX and Zoetis has a larger veterinary product and service offering than we do and a large sales infrastructure network and a well-established brand name. The primary business of IDEXX, like ours, is veterinary diagnostics while the primary business of Zoetis is veterinary pharmaceuticals.
In connection with our product development activities and manufacturing of our biological, pharmaceutical, and diagnostic and detection products, we are subject to federal, state and local laws, rules, regulations and policies governing the use, generation, manufacture, storage, handling and disposal of certain materials, biological specimens and wastes. Although we believe that we have complied with these laws, regulations and policies in all material respects and have not been required to take any significant action to correct any noncompliance, we may be required to incur significant costs to comply with environmental and health and safety regulations in the future. Although we believe that our safety procedures for handling and disposing of such materials comply with the standards prescribed by state and federal regulations, the risk of accidental contamination or injury from these materials cannot be eliminated. In the event of such an accident, we could be held liable for any damages that result and any such liability could exceed our resources.
Because we believe it provides useful information in a cost-effective manner to interested investors, we make available free of charge, via a link on our website, our annual reportAnnual Report on Form 10-K, quarterly reportsQuarterly Reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act as soon as reasonably practical after we electronically file such material with, or furnish it to, the Securities and Exchange Commission (the "SEC").
Our future operating results may vary substantially from period to period due to a number of factors, many of which are beyond our control. The following discussion highlights some of thesethe material factors and the possible impact of these factors on future results of operations. The risks and uncertainties described below are not the only ones we face. Additional risks or uncertainties not presently known to us or that we deem to be currently immaterial also may impair our business operations. If any of the following factors actually occur, our business, financial condition or results of operations could be harmed. In that case, the price of our Public Common Stock could decline and investors in our Public Common Stock could experience losses on their investment.
disputes may require significant expenditures on our part and could entail a significant distraction to members of our management team or other key employees. Insurance coverage may not cover any costs required to litigate a legal dispute or an unfavorable ruling or settlement. We do not have insurance coverage for the Fauley Complaint. A legal dispute leading to an unfavorable ruling or settlement, whether or not insurance coverage may be available for any portion thereof, could have significant material adverse consequences on our business. We may have to use legal means and incur affiliated costs to secure the benefits to which we are entitled, such as to collect payment for goods shipped toIf third parties which would reduce our income as compared to what it otherwise would have been.
We may become subject to patent infringement claims and litigation in the United States or other countries or interference proceedings conducted in the United States Patent and Trademark Office, or USPTO, to determine the priority of inventions. The defense and prosecution of intellectual property suits, USPTO interference proceedings and related legal and administrative proceedings are likely to be costly, time-consuming and distracting. As is typical in our industry, from time to time we and our collaborators and suppliers have received, and may in the future receive, notices from third parties claiming infringement and invitations to take licenses under third-party patents. Any legal action against us or our collaborators or suppliers may require us or our collaborators or suppliers to obtain one or more licenses in order to market or manufacture effected products or services. However, we or our collaborators or suppliers may not be able to obtain licenses for technology patented by others on commercially reasonable terms, or at all, or to develop alternative approaches to access or replace such technology if unable to obtain licenses or current and future licenses may not be adequate, any of which could substantially harm our business.
We may also need to pursue litigation to enforce any patents issued to us or our collaborative partners, to protect trade secrets or know-how owned by us or our collaborative partners, or to determine the enforceability, scope and validity of the proprietary rights of others. Any litigation or interference proceedings will likely result in substantial expense to us and significant diversion of the efforts of our technical and management personnel. Any adverse determination in litigation or interference proceedings could subject us to significant liabilities to third parties. Further, as a result of litigation or other proceedings, we may be required to seek licenses from third parties which may not be available on commercially reasonable terms, if at all.
If the third parties who havewith substantial marketing rights for certain of our historical products, existing products or future products under development are not successful in marketing those products, then our sales and financial position may suffer.
We are party to an agreementagreements with Merck Animal Health which grants Merck Animal Health exclusive distribution and marketing rights for our canine heartworm preventive product, TRI-HEART Plus Chewable Tablets, ultimately sold to or through veterinarians in the United States and Canada. Historically, a significant portion of our OVP segment's revenue has been generated from the sale ofElanco for certain bovine vaccines, which have been sold primarily under the Titanium®Titanium and MasterGuard®MasterGuard brands. We have a supply agreement with Eli Lilly and its affiliates operating through Elanco for the production of these vaccines. Either of these marketing partners may not devote sufficient resources to marketing our products and our sales and financial position could suffer significantly as a result. Revenue from Merck & Co., Inc. ("Merck") entities, includingFor example, in 2019, Merck Animal Health represented 12% of our 2017 revenue. Revenue from Eli Lilly entities, including Elanco, represented 11% of our 2017 revenue. If Merck Animal Health personnel failfailed to market, sell and support our heartworm preventive sufficiently or if Elanco personnel fail to market, sell and support the bovine vaccines we produce and sell to Elanco sufficiently,product, which resulted in depressed PVD product annual revenue in our sales could decline significantly.North America segment. Furthermore, there may be nothing to prevent these partners from pursuing alternative technologies, products or supply arrangements, including as part of mergers, acquisitions or divestitures. For example, we believe a unit of Merck has obtained FDA approval for a canine heartworm preventive product with additional claims
compared with our TRI-HEART Plus Chewable Tablets, but which we believe is not currently being marketed actively. Should Merck decide to emphasize sales and marketing efforts of this product rather than our TRI-HEART Plus Chewable Tablets or cancel our agreement regarding canine heartworm preventive distribution and marketing, our sales could decline significantly. In another example, if Elanco were to emphasize sales and marketing efforts for bovine vaccines other than those we produce or cancel our supply agreement and produce the vaccines we supply to it by itself, our sales could decline significantly. Third-partyThird party marketing assistance may not be available in the future on reasonable terms, if at all. If the third parties with marketing rights for our products were to merge or go out of business, the sale and promotion of our products could be diminished.
We rely substantially on third-party suppliers.third party suppliers and rights under contracts with third parties. The loss of products, or rights under contracts, or delays in product availability from one or more third-partythird party suppliers could substantially harm our business.
To be successful, we must contract for the supply of, or manufacture ourselves, current and future products of appropriate quantity, quality and cost. Such products must be available on a timely basis and be in compliance with any regulatory requirements. Similarly, we must provide ourselves, or contract for the supply of, certain services. Such services must be provided in a timely and appropriate manner. Failure to do any of the above could substantially harm our business.
We rely on third-partythird party suppliers to manufacture those products we do not manufacture ourselves and to provide services we do not provide ourselves. Proprietary products provided by these suppliers represent a majority of our revenue. We currently rely on these suppliers for our point of carePOC laboratory instruments and consumable supplies for these instruments, for our imaging products and related software and services, for key components of our point-of-carePOC diagnostic tests as well as for the manufacture of other products.
The loss of access to products from one or more suppliers could have a significant, negative impact on our business. Major suppliers whothat sell us proprietary products who are responsible for more than 5% of our LTM revenue are FUJIFILM Corporation Cuattro, LLC, and Shenzen Mindray Bio-Medical Electronics Co., Ltd. Only FUJIFILM Corporation sold us products that were responsible for more than 25% of our LTM revenue. We often purchase products from our suppliers under agreements that are of limited duration or potentially can be terminated on an annual basis.short notice subsequent to unfavorable legal action. In the case of our point of carePOC laboratory instruments and our digital radiography solutions, post-termination, we are typically entitled to non-exclusive access to consumable supplies, or ongoing non-exclusive access to products and services to meet the needs of an existing customer base, respectively, for a defined period upon expiration of exclusive rights, which could subject us to competitive pressures in the period of non-exclusive access. Although we believe we will be able to maintain a supply of our major product and service offerings in the near future, thereThere can be no assurance that our suppliers will meet their obligations under any agreements we may have in place with them or that we will be able to compel them to do so. Risks of relying on suppliers include:
•Inability to meet minimum obligations. obligations. Current agreements, or agreements we may negotiate in the future, may commit us to certain minimum purchase or other spending obligations. It is possible we will not be able to create the market demand to meet such obligations, which could create a drain on our financial resources and liquidity. Some such agreements may require minimum purchases and/or sales to maintain product rights and we may be significantly harmed if we are unable to meet such requirements and lose product rights.
•Loss of exclusivity.exclusivity. In the case of our point of carePOC laboratory instruments, if we are entitled to non-exclusive access to consumable supplies for a defined period upon expiration of exclusive rights, we may face increased competition from a third party with similar non-exclusive access or our former supplier, which could cause us to lose customers and/or significantly decrease our margins and could significantly affect our financial results. In addition, current agreements, or
agreements we may negotiate in the future, with suppliers may require us to meet minimum annual sales levels to maintain our position as the exclusive distributor of these products. We may not meet these minimum sales levels and maintain exclusivity over the distribution and sale of these products. If we are not the exclusive distributor of these products, competition may increase significantly, reducing our revenues and/or decreasing our margins.
•Changes in economics.economics. An underlying change in the economics with a supplier, such as a large price increase or new requirement of large minimum purchase amounts, could have a significant, adverse effect on our business, particularly if we are unable to identify and implement an alternative source of supply in a timely manner.
•Supply chain constraints in raw materials to suppliers. Our suppliers rely on sourcing raw materials, instrument components and other items necessary to produce the supply of products we offer our customers. Supply chain constraints faced by our suppliers may delay a supplier’s ability to produce our products, which could create an interruption in our ability to fulfill orders.
•The loss of product rights upon expiration or termination of an existing agreement.agreement. Unless we are able to find an alternate supply of a similar product, we would not be able to continue to offer our customers the same breadth of products and our sales and operating results would likely suffer. In the case of an instrument supplier, we could also potentially suffer the loss of sales of consumable supplies, which would be significant in cases where we have built a significant installed base, further harming our sales prospects and opportunities. Even if we were able to find an alternate supply for a product to which we lost rights, we would likely face increased competition from the product whose rights we lost being marketed by a third party or the former supplier and it may take us additional time and expense to gain the necessary approvals and launch an alternative product.
•High switching costs. costs. In our point of carePOC laboratory instrument products, we could face significant competition and lose all or some of the consumable revenues from the installed base of those instruments if we were to switch to a competitive instrument. If we need to change to other commercial manufacturing contractors for certain of our regulated products, additional regulatory licenses or approvals generally must be obtained for these contractors prior to our use. This would require new testing and compliance inspections prior to sale, thus resulting in potential delays. Any new manufacturer would have to be educated in, or develop, substantially equivalent processes necessary for the production of our products. We likely would have to train our sales force, distribution network employees and customer support organization on the new product and spend significant funds marketing the new product to our customer base.
•The involuntary or voluntary discontinuation of a product line.line. Unless we are able to find an alternate supply of a similar product in this or similar circumstances with any product, we would not be able to continue to offer our customers the same breadth of products and our sales would likely suffer. Even if we are able to identify an alternate supply, it may take us additional time and expense to gain the necessary approvals and launch an alternative product, especially if the product is discontinued unexpectedly.
•Inconsistent or inadequate quality control.control. We may not be able to control or adequately monitor the quality of products we receive from our suppliers. Poor quality items could damage our reputation with our customers.
•Limited capacity or ability to scale capacity.capacity. If market demand for our products increases suddenly, our current suppliers might not be able to fulfill our commercial needs, which would require us to seek new manufacturing arrangements and may result in substantial delays in meeting market demand. If we consistently generate more demand for a product than a given supplier is capable of
handling, it could lead to large backorders and potentially lost sales to competitive products that are readily available. This could require us to seek or fund new sources of supply, which may be difficult to find or may require terms that are less advantageous if available at all.
•Regulatory risk.risk. Our manufacturing facility and those of some of our third-party suppliers are subject to ongoing periodic unannounced inspection by regulatory authorities, including the FDA, USDA and other federal, state and foreign agencies for compliance with strictly enforced Good Manufacturing Practices, regulations and similar foreign standards. We do not have control over our suppliers'suppliers’ compliance with these regulations and standards. Regulatory violations could potentially lead to interruptions in supply that could cause us to lose sales to readily available competitive products. If one of our suppliers is unable to provide a raw material or finished product due to regulatory issues, it could have a material adverse financial impact on our business and could expose us to legal action if we are unable to perform on contracts to our customers involving related products.
•Developmental delays.delays. We may experience delays in the scale-up quantities needed for product development that could delay regulatory submissions and commercialization of our products in development, causing us to miss key opportunities.
•Limited geographic rights.rights. We typically do not have global geographic rights to products supplied by third parties. If we were to determine a market opportunity in a geography where we did not have distribution rights and were unable to obtain such rights from the supplier, it might hamper our ability to succeed in such geography and our sales and profits would be lower than they otherwise would have been.
•Limited intellectual property rights.rights. We typically do not have intellectual property rights, or may have to share intellectual property rights, to the products supplied by third parties and any improvements to the manufacturing processes or new manufacturing processes for these products.
•Changes to United States tariff and import/export regulations. Changes to United States trade policies, treaties and tariffs could have a material adverse effect on global trade. These changes could result in increased costs of goods imported into the United States for the Company and our third-party suppliers. Our third-party suppliers may limit their trade with companies in the United States, including us.
•Global human and animal health risk. Several of our suppliers have operations in areas that may be susceptible to public health emergencies that could restrict global trade generally, and our access to consumables and product, specifically. The risk of infectious disease in humans and animals may limit trade and product access with third party suppliers with companies inside and outside the United States, including us. In particular, the use of animal bi-product may affect our consumable supply as a result of global animal health risks.
Potential problems with suppliers such as those discussed above could substantially decrease sales, lead to higher costs and/or damage our reputation with our customers due to factors such as poor quality goods or delays in order fulfillment, resulting in our being unable to sell our products effectively and substantially harming our business.
We depend on key personnel for our future success. If we lose our key personnel or are unable to attract and retain additional personnel, we may be unable to achieve our goals.
Our future success is substantially dependent on the efforts of our senior management and other key personnel, including our Chief Executive Officer (“CEO”) and President, Kevin Wilson. The loss of significant customers who, for example, are historically large purchasersthe services of members of our senior management or who are considered leaders in their field could damageother key personnel may significantly delay or prevent the achievement of our business and financial results.objectives. Although we have employment agreements with many of these individuals, all are at-will employees, which means that either the employee or Heska may terminate employment at any time without prior notice. If we lose the services of, or fail to recruit, key personnel, the
In our CCA Segment, revenue from Butler Animal Health Supply, LLC d/b/a Henry Schein Animal Health ("Henry Schein") represented approximately 13%, 13%, and 10%growth of our consolidated revenuebusiness could be substantially impaired. We do not maintain key person life insurance for the years ended December 31, 2017, 2016, and 2015, respectively. Revenue from Merck entities, including Merck Animal Health, represented approximately 12% for the year ended December 31, 2017, and 11% each for the years ended December 31, 2016 and 2015. Revenue from De Lage Landen Financial Services, Inc. ("DLL"), represented approximately 7%, 11%, and 10%any of our consolidated revenue forsenior management or key personnel.
We also expect that we may incur increased compensation expenses and higher-than-normal employee turnover as we attempt to attract and retain skilled employees during a macro working environment where qualified labor is in short supply, job-mobility is high in part because of remote working arrangements, and the years ended December 31, 2017, 2016,benefits of company culture and 2015, respectively. DLL is a third-party financing company that provides financing and leasing for, primarily, our imaging product customers. In our OVP segment, revenue from Eli Lilly entities, including Elanco, represented approximately 11%, 12% and 12% forpersonal relationships are more difficult to realize outside of the years ended December 31, 2017, 2016, and 2015, respectively. No other customer accounted for more than 10% of our consolidated revenue for the years ended December 31, 2017, 2016, or 2015.traditional office setting.
Henry Schein represented 16% of our consolidated accounts receivable at December 31, 2017 and 2016. Merck entities represented approximately 15% and 11% of our consolidated accounts receivable at December 31, 2017 and 2016, respectively. DLL represented 11% and 18% of our consolidated accounts receivable at December 31, 2017 and 2016, respectively. Eli Lilly entities, including Elanco, represented approximately 3% and 15% of our consolidated accounts receivable at December 31, 2017 and 2016, respectively. No other customer accounted for more than 10% of our consolidated accounts receivable at December 31, 2017 or 2016.
The loss of significant customers who, for example, are historically large purchasers or who are considered leaders in their field could damage our business, reputation, and financial results.
We operate in a highly competitive industry, which could render our products obsolete or substantially limit the volume of products that we sell. This would limit our ability to compete and maintain sustained profitability.
The market in which we compete is intensely competitive. Our competitors include independent animal health companies and major pharmaceutical companies that have animal health divisions. We also compete with independent, third-partythird party distributors, including distributors whothat sell products under their own private labels. In the point-of-carePOC diagnostic testing market, our major competitors include IDEXX Laboratories, Inc. ("IDEXX"), Abaxis Inc. ("Abaxis"), and Zoetis Inc. ("Zoetis").Zoetis. The OVP products manufactured by our OVPNorth America segment for sale by third parties compete with similar products offered by a number of other companies, some of which have substantially greater financial, technical, research and other resources than us and may have more established marketing, sales, distribution and service organizations than those of our OVP segmentproduct customers. Competitors may have facilities with similar capabilities to our OVP segment,Des Moines, Iowa facility, which they may operate and sell at a lower unit price to customers than we sell our OVP segment does,products for, which could cause us to lose customers. Companies with a significant presence in the companion animal health market, such as Bayer AG, CEVA SantéSante´ Animale, Eli Lilly,Elanco, Merck Animal Health, Sanofi, Vétoquinol S.A. and Virbac S.A. may be marketing or developing products that compete with our products or would compete with them if developed. These and other competitors and potential competitors may have substantially greater financial, technical, research and other resources and larger, more established marketing, sales and service organizations than we do. For example, if Zoetis devotes its significant commercial and financial resources to growing its market share in the veterinary allergy market, our allergy-related sales could suffer significantly. Our competitors may offer broader product lines and have greater name recognition than we do. Our competitors may also develop or market technologies or products that are more effective or commercially attractive than our current or future products or that would render our technologies and products obsolete. Further, additional competition could come from new entrants to the animal health care market. Moreover, we may not have the financial resources, technical expertise or marketing, sales or support capabilities to compete successfully. Zoetis has recently launched allergy products which may diminish the competitiveness and sales prospects for our own allergy immunotherapy products. IDEXX has recently launched an SDMA test in its point of care laboratory chemistry line, which may cause veterinary customers to prefer IDEXX products to ours.
If we fail to compete successfully, our ability to achieve sustained profitability will be limited and sustained profitability, or profitability at all, may not be possible.possible.
We benefit from relationships or collaboration with third parties, including but not limited to, companies, buying groups, veterinary hospital groups and reference laboratory entities that operate in our markets. Beneficial third party, semi-competitive, directly competitive and cooperative relationships that affect how we go to market, develop products, generate leads and other commercial efforts of Heska may be negatively affected as a result of consolidation, acquisition, merger, exclusive arrangement or other agreements or activities between and amongst those third parties and others.
We depend on key personnel for our future success. If we lose our key personnel or are unable to attract and retain additional personnel, we may be unable to achieve our goals.
Our future success is substantially dependent on the efforts of our senior management and other key personnel, including our Chief Executive Officer and President, Kevin Wilson. The loss of the services of members of our senior management or other key personnel may significantly delay or prevent the achievement of our business objectives. Although we have employment agreements with many of these individuals, all are at-will employees, which means that either the employee or Heska may terminate employment at any time without prior notice. If we lose the services of, or fail to recruit, key personnel, the growth of our business could be substantially impaired. We do not maintain key person life insurance for any of our senior management or key personnel.
We often depend on third parties for products we intend to introduce in the future. If our current relationships and collaborations are not successful, we may not be able to introduce the products we intend to introduce in the future.
We are oftenoccasionally dependent on third parties and collaborative partners to successfully and timely perform research and development activities to successfully develop new products. We routinely discuss Heska marketing in the veterinary market instruments being developed by third parties for use in the human health care market. In the future, one or more of these third parties or collaborative partners may not complete research and
development activities in a timely fashion, or at all. Even if these third parties are successful in their research and development activities, we may not be able to come to an economic agreement with them. If these third parties or collaborative partners fail to complete research and development activities or fail to complete them in a timely fashion, or if we are unable to negotiate economic agreements with such third parties or collaborative partners, our ability to introduce new products willmay be impacted negatively and our revenues may decline.
We may be unable to market and sell our products successfully.
We may not develop and maintain marketing and/or sales capabilities successfully, and we may not be able to make arrangements with third parties to perform these activities on satisfactory terms.terms, or at all. If our marketing and sales strategy is unsuccessful, our ability to sell our products will be negatively impacted and our revenues will decrease. This could result in the loss of distribution rights for products or failure to gain access to new products and could cause damage to our reputation and adversely affect our business and future prospects.
The market for companion animal healthcare products is highly fragmented. Because our CCA proprietary products are generally available only to veterinarians or by prescription and our medical instruments require technical training to operate, we ultimately sell all our CCA products primarily to or through veterinarians. The acceptance of our products by veterinarians is critical to our success. Changes in our ability to obtain or maintain such acceptance or changes in veterinary medical practice could significantly decrease our anticipated sales. As the vast majority of cash flow to veterinarians ultimately is funded by pet owners without private insurance or government support, our business may be more susceptible to severe economic downturns than other health care businesses whichthat rely less on individual consumers.
For our point of carePOC laboratory blood diagnostics products, we primarily rely on contracts with our veterinary customers for their use of our owned equipment and our consumablesconsumable supplies over a multiple year period. If veterinarians under these contracts experience a significant downturn in their business, they may not fulfill their use and financial obligations under these contracts. If veterinarians breach our contracts, and we are unable to collect on default payment provisions or otherwise enforce the terms of our contracts, our business will be adversely affected. If we have to litigate against customer(s)customers to enforce our contracts, our
expenses may increase, our sales may decrease to those customers, and our reputation may suffer. If significant numbers of our customers under contracts for use of our equipment and consumable supplies do not renew their contracts, our business will be adversely affected.
We have entered into agreements with independent third party distributors including Henry Schein, whichwho we anticipated toanticipate will market and sell our products to a greater degree than in the recent past. Independent third-partythird party distributors may be effective in increasing sales of our products to veterinarians, although we would expect a corresponding lower gross margin as such distributors typically buy products from us at a discount to end user prices. It is possible new or existing independent third-party distributors could cannibalize our direct sales efforts and lower our total gross margin. For us to be effective when working with an independent third-partythird party distributor, the distributor must agree to market and/or sell our products and we must provide proper economic incentives to the distributor as well as contend effectively for the time, energy and focus of the employees of such distributor given other products the distributor may be carrying, potentially including those of our competitors. If we fail to be effective with new or existing independent third-party distributors, our financial performance may suffer.
Our stock price has historically experienced high volatility,
We face risks associated with our international operations and could do so inour international expansion may not generate the future, including experiencing a material price decline resulting from a large sale in a short period of time.results we anticipate.
Should a relatively large shareholder decide to sell a large number of shares in a short period of time, it could lead to an excess supply
A core component of our shares available for sale and correspondingly result in a significant decline infuture growth strategy is international expansion. As we continue to expand our stock price.
The securities markets have experienced significant price and volume fluctuations and the market prices of securities of many small cap companies have in the past been, and can in the futureinternational footprint, we will be expected to be, especially volatile. During the twelve months ended December 31, 2017, the closing stock price of our Public Common Stock has ranged from a low of $71.55 to a high of $110.24. Fluctuations in the trading price or liquidity of our Public Common Stock may adversely affect our ability to raise capital through future equity financings. Factors that may have a significant impact on the market price and marketability of our Public Common Stock include:
stock sales by large stockholders or by insiders;
changes in the outlook for our business;
our quarterly operating results, including as compared to expected revenue or earnings and in comparison to historical results;
termination, cancellation or expiration of our third-party supplier relationships;
announcements of technological innovations or new products by our competitors or by us;
litigation;
regulatory developments, including delays in product introductions;
developments or disputes concerning patents or proprietary rights;
availability of our revolving line of credit and compliance with debt covenants;
releases of reports by securities analysts;
economic and other external factors; and
general market conditions.
In the past, following periods of volatility in the market price of a company's securities, securities class action litigation has often been instituted. If a securities class action suit is filed against us, it is likely we would incur substantial legal fees and our management's attention and resources would be diverted from operating our business in order to respondincreasingly susceptible to the litigation.risks associated with international operations including, but not limited to, the following:
•Increased competition from global market competitors;
On May 4, 2010, our shareholders approved an amendment (the "Amendment") to our Restated Certificate of Incorporation. The Amendment places restrictions on the transfer of our stock that could adversely affect our ability to use our domestic Federal Net Operating Loss carryforward ("NOL"). In particular, the Amendment prevents the transfer of shares without the approval of our Board of Directors if, as a consequence, an individual, entity or groups of individuals or entities would become a 5-percent holder under Section 382 of the Internal Revenue Code of 1986, as amended,•uncertain political and the related Treasury regulations, and also prevents any existing 5-percent holder from increasing his or her ownership position in the Company without the approval of our Board of Directors. Any transfer of shares in violation of the Amendment (a "Transfer Violation") shall be void ab initio under the our Restated Certificate of Incorporation, as amended (our "Certificate of Incorporation") and our Board of Directors has procedures under our Certificate of Incorporation to remedy a Transfer Violationeconomic climates, including requiring the shares causing such Transfer Violation to be sold and any profit resulting from such sale to be transferred to a charitable entity chosen by the Company's Board of Directors in specified circumstances. The Amendment could have an adverse impact on the value and trading liquidity of our stock if certain buyers who would otherwise have bid on or purchased our stock, including buyers who may not be comfortable owning stock with transfer restrictions, do not bid on or purchase our stock as a result of the Amendment. In addition, because some corporate takeovers occur through the acquirer's purchase, in the public market or otherwise, of sufficient shares to give it control of a company, any provision that restricts the transfer of shares can have the effect of preventing a takeover. The Amendment could discourage or otherwise prevent accumulations of substantial blocks of shares in which our stockholders might receive a substantial premium above market value and might tend to insulate managementconflict between Russia and the BoardUkraine;
•fluctuations in exchange rates, such as the strengthening of Directors against the possibilityU.S. Dollar, that may increase the volatility of removalforeign-based revenue and expense;
•burdens of complying with and unexpected changes in foreign laws, accounting and legal standards, regulatory requirements, taxes, tariffs and other barriers or trade restrictions;
•lack of experience in connection with the customs, cultures, languages and sales cycle;
•reduced or altered protection for intellectual property rights; and
•data privacy and cybersecurity laws in foreign countries, which may subject our data collection, storage and processing to different and more expansive requirements than the United States.
As a greater degree than hadresult of these and other factors, international expansion may be more difficult and not generate the Amendment not passed.results we anticipate, which could negatively impact our business.
In February 2018,We may face costly legal disputes, including disputes related to our Board of Directors granted a waiver to a non-affiliated stockholder to allow the purchase, subject to certain limitations, of up to 730,000 sharesintellectual property or technology or that of our common stock without causing a Transfer Violation. This waiver can be withdrawn by our Board of Directors at any time, in which case the non-affiliated stockholder is to only sell our stock until the non-affiliated stockholder ceases to be a Five Percent Shareholder (as defined in our Certificate of Incorporation). This waiver,suppliers or collaborators.
We have faced, and any similar waivers that our Board of Directors may grantface in the future, legal disputes related to our business. Even if meritless, these disputes may make it more likely that we have a "change of ownership" as defined under the provisions of Section 382 of the Internal Revenue Code of 1986, as amended, whichrequire significant expenditures on our part and could placeentail a significant restrictiondistraction to members of our management team or other key employees. Insurance coverage may not cover any costs required to litigate a legal dispute or an unfavorable ruling or settlement. A legal dispute leading to an unfavorable ruling or settlement, whether or not insurance coverage may be available for any portion thereof, could have material adverse consequences on our abilitybusiness. Moreover, we may have to utilizeuse legal means and incur affiliated costs to secure the benefits to which we are entitled under third party agreements, such as to collect payment for goods shipped to third parties, which would reduce our domestic Federal NOLincome as compared to what it otherwise would have been.
We may become subject to patent infringement claims and litigation in the United States or other countries or interference proceedings conducted in the United States Patent and Trademark Office, or USPTO, to determine the priority of inventions. The defense and prosecution of intellectual property suits, USPTO interference proceedings and related legal and administrative proceedings are likely to be costly, time-consuming and distracting. As is typical in our industry, from time to time we and our collaborators and suppliers have received, and may in the future receive, notices from third parties claiming infringement and materially adversely affectinvitations to take licenses under third-party patents. Any legal action against us or our resultscollaborators or suppliers may require us or our collaborators or suppliers to obtain one or more licenses in order to market or manufacture affected products or services. We or our collaborators or suppliers may not, however, be able to obtain licenses for technology patented by others on commercially reasonable terms, or at all, or to develop alternative approaches to access or replace such technology if we or they are unable to obtain such licenses or if current and future licenses prove inadequate, any of operations.
Our Credit Facility contains restrictions that may limit our flexibility in operatingwhich could substantially harm our business.
In July 2017, we entered into a Credit Agreement (the "Credit Agreement") with JPMorgan Chase Bank, N.A. ("Chase"), which provides for a revolving credit facility of upWe may also need to $30.0 million (the "Credit Facility"). The Credit Facility contains various financialpursue litigation to enforce any contractual rights or patents issued to us or our collaborative partners, to protect trade secrets or know-how owned by us or our collaborative partners, or to
determine the enforceability, scope and non-financial operating covenants that limit our ability to engage in specified types of transactions. The financial covenants require that we maintain a minimum fixed charge coverage ratio and a maximum leverage ratio. The operating covenants limit our ability to, among other things:
sell, transfer, lease or disposevalidity of our assets;
create, incurcontractual rights or assume additional indebtedness;
encumberthe proprietary rights of others. Any litigation or permit lines on certaininterference proceedings will likely result in substantial expense to us and significant diversion of the efforts of our assets;technical and management personnel. Any adverse determination in litigation or interference proceedings could subject us to significant liabilities to third parties. Further, as a result of litigation or other proceedings, we may be required to seek licenses from third parties which may not be available on commercially reasonable terms, or at all.
make restricted payments, including paying dividends on, repurchasing or making distributions with respect to our common stock;
make specified investments (including loans and advances);
consolidate, merge, sell or otherwise dispose of all our substantially all of our assets; and
enter into certain transactions.
A breach of any of these covenants or a material adverse change to our business could result in a default under the Credit Agreement. Upon the occurrence of an event of default under our Credit Agreement, our lenders could elect to declare all amounts outstanding to be immediately due and payable and terminate all commitments to extend further credit. If we were unable to repay those amounts, the lenders could proceed against the collateral granted to them to secure such indebtedness.
Interpretation of existing legislation, regulations and rules, including financial accounting standards, or implementation of future legislation, regulations and rules could cause our costs to increase or could harm us in other ways.
As a public company, we have incurred and will continue to incur significant legal, accounting and other expenses due to our compliance with regulations and disclosure obligations applicable to us, including compliance with the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, as well as rules implemented by the SEC and the Nasdaq Stock Market. We prepare our financial statements in conformance with United States generally accepted accounting principles, or US GAAP. These accounting principles are established by and are subject to interpretation by the SEC, the FASB and others whowhich interpret and create accounting policies. These rules and regulations will continue to cause us to incur significant legal and financial compliance costs and will make some activities more time-consuming and costly. A change in those policies or how those policies are interpreted can have a significant effect on our reported results and may affect our reporting of transactions completed before a change is made effective. Such changes may require us to incur additional compliance costs, adversely affect our reported financial results and the way we conduct our business or have a negative impact on us if we fail to track such changes.
If our regulators and/or auditors adopt or interpret more stringent standards than we anticipate, we could experience unanticipated changes in our reported financial statements, including but not limited to restatements, which could adversely affect our business due to litigation and investor confidence in our financial statements. In addition, changes in the underlying circumstances to which we apply given accounting standards and principles may affect our results of operations and have a negative impact on us. For example, we review goodwill recognized on our consolidated balance sheets at least annually and if we were to conclude there was an impairment of goodwill, we would reduce the corresponding goodwill to its estimated fair value and recognize a corresponding expense in our statement of operations. This impairment and corresponding expense could be as large as the total amount of goodwill recognized on our consolidated balance sheets, which was $26.7$135.9 million at December 31, 2017.2022 and $118.8 million at December 31, 2021. There can be no assurance that future goodwill impairments will not occur if projected financial results are not met, or otherwise.
The Sarbanes-Oxley Act of 2002 ("Sarbanes-Oxley") has increased our required administrative actions and expenses as a public company since its enactment. The general and administrative costs of complying with Sarbanes-Oxley will depend on how it is interpreted over time. Of particular concern are the level of standards for internal control evaluation and reporting adopted under Section 404 of Sarbanes-Oxley. If our regulators and/or auditors adopt or interpret more stringent standards than we anticipate, we and/or our auditors may be unable to conclude that our internal controls over financial reporting are designed and operating effectively, which could adversely affect investor confidence in our financial statements and cause our stock price to decline. Even if we and our auditors are able to conclude that our internal control over financial reporting is designed and operating effectively in such a circumstance, our general and administrative costs are likely to increase. For example, in both 2017 and 2016, we were required to have our independent registered public accountant conduct an audit of our internal control over financial reporting because as of June 30 of both years our stock market value was above a certain level prescribed by regulation. This increased our general and administrative costs from what they otherwise would have been.
Similarly, we are required to comply with the SEC's mandate to provide interactive data using the eXtensible Business Reporting Language as an exhibit to certain SEC filings. Compliance with this mandate has required a significant time investment, which has and may in the future preclude some of our employees from spending time on more productive matters. In addition, future legislative, regulatory or rule-making action or more stringent interpretations of existing legislation, regulations and rules may increase our general and administrative costs or have other adverse effects on us.
Finally, changes in our tax environment could cause volatility or have an adverse effect on our business and financial results, as taxes are a significant component of our expenses. On December 22, 2017, H.R. 1, also known as the Tax Cuts and Jobs Act (the “Act”), was enacted into law. The resulting changes in US corporate tax rates, revised rules and taxing regimes could result in a material effect to our results of operations, deferred tax asset value, and financial condition. Additionally, at this point, it is unclear how many US states will incorporate these federal law changes into their local laws, and to what extent. We are continuing to evaluate the Act and the resulting impacts. If our complete and final assessment and understanding of the 2017 Tax Act differs significantly from this initial assessment, or the forthcoming rules, regulations and interpretations change our preliminary conclusions, the resulting impacts could have a material adverse impact on our tax rate and tax expense.
We regularly evaluate, and we intend to pursue, acquisitions, investments, licenses, joint ventures, and other strategic development opportunities, which may not result ashave desired results and could be detrimental to our financial position.
We continue to evaluate, and we intend to pursue, acquisitions and other strategic development opportunities, including minority investments where strategic.strategic, such as our acquisition of scil in 2020, our acquisitions of Lacuna, BiEsseA, and Biotech in 2021, our acquisition of VetZ in 2022, and our acquisition of LightDeck in 2023. The ultimate business and financial performance of these opportunities may not create, and may end up adversely affecting materially, the value we hope to enhance by pursuing them. Any acquisition may significantly underperform relative to our financial expectations and may serve to diminish rather than enhance shareholderstockholder value. We may also diminish our cash resources or dilute stockholders in order to finance any such acquisition or other strategic transaction.
The success of any acquisition will depend on, among other things, our ability to integrate assets and personnel acquired in these transactions and to apply our internal controls process to these acquired businesses. The integration of acquisitions mayis likely to require significant attention from our management, and
the diversion of management'smanagement’s attention and resources could have a material adverse effect on our ability to manage our business. Furthermore, we may not realize the degree or timing of benefits we anticipated when we first entered into the acquisition transaction. If actual integration costs are higher than amounts originally anticipated, if we are unable to integrate the assets and personnel acquired in an acquisition as anticipated, or if we are unable to fully benefit from anticipated synergies, our business, financial condition, results of operations and cash flows could be materially adversely affected. Furthermore, it is possible we will use management time and resources to pursue opportunities we ultimately are unable or decide not to consummate, in which case, we may not be able to utilize such management time and resources on what may have proved to be more productive matters in other areas of our business.
We make investments into licenses, third parties, and contracts with legal, development and commercial rights and obligations. These investments may not produce positive results, economic or strategic value, or any benefits and may decline in value or have no value.
Obtaining and maintaining regulatory approvals in order to market our products may be costly and could delay the marketing and sales of our products. Failure to meet all regulatory requirements could cause significant losses from affected inventory and the loss of market share.
Many of the products we develop, market or manufacture may subject us to extensive regulation by one or more of the USDA, the FDA, the EPA and foreign and other regulatory authorities. These regulations govern, among other things, the development, testing, manufacturing, labeling, storage, pre-market approval, advertising, promotion and sale of some of our products. Satisfaction of these requirements can take several years and time needed to satisfy them may vary substantially, based on the type, complexity and novelty of the product. The decision by a regulatory authority to regulate a currently non-regulated product or product area could significantly impact our revenue and have a corresponding adverse impact on our financial performance and position while we attempt to comply with the new regulation, if such compliance is possible at all.
The effect of government regulation may be to delay or to prevent marketing of our products for a considerable period of time and to impose costly procedures upon our activities. We may not be able to estimate the time to obtain required regulatory approvals accurately and such approvals may require
significantly more time than we anticipate. We have experienced in the past, and may experience in the future, difficulties that could delay or prevent us from obtaining the regulatory approval or license necessary to introduce or market our products. Such delays in approval may cause us to forego a significant portion of a new product'sproduct’s sales in its first year due to seasonality and advanced booking periods associated with certain products. Regulatory approval of our products may also impose limitations on the indicated or intended uses for which our products may be marketed.
Difficulties in making established products to all regulatory specifications may lead to significant losses related to affected inventory as well as market share. Among the conditions for certain regulatory approvals is the requirement that our facilities and/or the facilities of our third-partythird party manufacturers conform to current Good Manufacturing Practices and other analogous or additional requirements. If any regulatory authority determines that our manufacturing facilities or those of our third-partythird party manufacturers do not conform to appropriate manufacturing requirements, we or the manufacturers of our products may be subject to sanctions, including, but not limited to, warning letters, manufacturing suspensions, product recalls or seizures, injunctions, refusal to permit products to be imported into or exported out of the United States, refusals of regulatory authorities to grant approval or to allow us to enter into government supply contracts, withdrawals of previously approved marketing applications, civil fines and criminal prosecutions. Furthermore, third parties may perceive procedures required to obtain regulatory approval objectionable and may attempt to
disrupt or otherwise damage our business as a result. In addition, certain of our agreements may require us to pay penalties if we are unable to supply products, including for failure to maintain regulatory approvals.
Any of these events, alone or in combination with others, could significantly damage our business.business or results of operations.
Our future revenues depend on successful product development, direct manufacturing, contract manufacturing, commercialization and/or market acceptance, any of which can be slower than we expect or may not occur.
The product development and regulatory approval and maintenance process for many of our current and potential products is extensive and may take substantially longer than we anticipate. Research projects may fail. New products that we may be developing for the veterinary marketplace may not perform consistently within our expectations. Because we have limited resources to devote to product development and commercialization, any delay in the development of one product or reallocation of resources to product development efforts that prove unsuccessful may delay or jeopardize the development of other product candidates. If we fail to successfully develop new products and bring them to market in a timely manner, our ability to generate additional revenue will decrease.
Even if we are successful in the development of a product or obtain rights to a product from a third-partythird party supplier, we may experience delays or shortfalls in commercialization and/or market acceptance of the product. For example, veterinarians may be slow to adopt a product, a product may not achieve the anticipated technical performance in field use or there may be delays in producing large volumes of a product. The former is particularly likely where there is no comparable product available or historical precedent for such a product. The ultimate adoption of a new product by veterinarians, the rate of such adoption and the extent veterinarians choose to integrate such a product into their practice are all important factors in the economic success of any new products and are factors that we do not control to a large extent. If our products do not achieve a significant level of market acceptance, demand for our products will not develop as expected and our revenues will be lower than we anticipate.
Even if we are successful in the development of a product or obtain rights to a product from a third party supplier, we may not be able to, ourselves or through a third party, manufacture such product or continue to manufacture such product on an ongoing basis necessary to realize economic value or service customers, or manufacture such product economically or to the standard necessary to realize economic value or service customers.
Many of our expenses are fixed and if factors beyond our control cause our revenue to fluctuate, this fluctuation could cause greater than expected losses, cash flow and liquidity shortfalls.
We believe that our future operating results will fluctuate on a quarterly basis due to a variety of factors which are generally beyond our control, including:
•supply of products and components, including minimum purchase agreements, from third-partythird party suppliers or termination, cancellation or expiration of such relationships;
•competition and pricing pressures from competitive products;
•the introduction of new products or services by our competitors or by us;
•large customers failing to purchase at historical levels;
•fundamental shifts in market demand;
•manufacturing delays;
•shipment problems;
•information technology problems, which may prevent us from conducting our business effectively, or at all, and may also raise our costs;
•regulatory and other delays in product development;
•product recalls or other issues which may raise our costs;
•changes in our reputation and/or market acceptance of our current or new products; and
•changes in the mix of products sold.
We have high operating expenses, including those related to personnel. Many of these expenses are fixed in the short term and may increase over time. If any of the factors listed above cause our revenues to decline, our operating results could be substantially harmed.
Cyberattack related breaches of the Company’sour information technology systems could have an adverse effect on our business.
Cyberattacks are increasing in their frequency, sophistication and intensity, and have become increasingly difficult to detect and defend against, notwithstanding our ongoing evaluation of and improvements to the preventive measures we take on to reduce the risks associated with these threats based on our own experience and those observed in the broader market. Cyberattacks, ranging from the use of malware, computer viruses, dedicated denial of services attacks, credential harvesting, social engineering and other means for obtaining unauthorized access to our Company's confidential information or assets or disrupting our Company’s ability to operate normally, could have ana material adverse effect on our business. Cyberattacks may cause equipment failures, loss of information or assets, including sensitive personal information of third-party vendors, customers or employees, or valuable technical and marketing information, as well as disruptions to our or our vendor or customers’ operations. These attacks may be committed by company employees or external actors operating in any geography, including jurisdictions where law enforcement measures to address such attacks are unavailable or ineffective. Cyberattacks may occur alone or in conjunction with physical attacks, especially where disruption of service is an objective of the attacker. While, to date, we have not been subject to cyberattacks which, individually or in the aggregate, have been material to Heska Corporation’s operations or financial condition, theThe preventive actions we take on an ongoing basis to reduce the risks and mitigate the potential damages associated with cyberattacks, including protection of our systems, networks and networks,assets and the retention of cybersecurity insurance policies, may be insufficient to repel or mitigate entirely the effects of a major cyberattack in the future.cyberattack.
The Company devotesWe devote significant resources to network security, data encryption and other security measures to protect itsour systems and data, but these security measures cannot provide absolute security. The Company requires user names and passwords to access its information technology systems. The Company also uses encryption and authentication technologies designed to secure the transmission and storage of data and prevent unauthorized access. The Company also conducts periodic internal training and educational communications to raise and maintain employee cybersecurity awareness. To the extent the Company waswe were to experience a breach of itsour systems and waswere unable to protect sensitive data in the wake of the breach, such a breach could materially damage business partner and customer relationships and reduce or otherwise negatively impact access to online services. Moreover, if a computer security breach affects the Company’sour systems or results in the unauthorized release of Personally Identifiable Information (PII)(“PII”), the Company’sour reputation and brand could be materially damaged. Usedamaged; use of the Company’sour products and services could decrease, we could suffer from reputational harm impacting sales revenue, and the Companywe could be exposedfaced with unforeseen regulatory investigation, remediation and litigation costs. Our cybersecurity insurance policies may not cover the full extent, or any, of the potential financial harm that could be caused by a breach of our systems, including in respect of theft or possible damages claims that may be brought against us by our business partners and customers in respect of any such breach.
The frequently changing attack techniques, along with the increased volume and sophistication of the attacks, create additional potential for us to a risk of lossbe adversely impacted by this activity. This impact could result in reputational, competitive, operational or litigationother business harm as well as management distraction, financial losses and possible liability.costs, and regulatory action.
We have less than 300 holders of record, which could allow us to terminate voluntarily the registration of our common stock with the SEC and after which we would no longer be eligible to maintain the listing of our Public Common Stock on the Nasdaq Capital Market. We may also be unable to otherwise maintainprotect our listingstakeholders’ privacy or we may fail to comply with privacy laws.
The protection of customer, employee, supplier and company data is critical and the regulatory environment surrounding information security, storage, use, processing, and disclosure of personal information is demanding. There is frequent imposition of new and changing requirements and enforcement risks, particularly as more U.S. states enact comprehensive privacy laws, including Colorado, which recently passed the Colorado Privacy Act, effective July 2023. In addition, our customers, employees and suppliers expect that we will protect their personal information. Any actual or perceived cyberattack, unauthorized access or acquisition of customer, employee or supplier data, or our failure to comply with federal, state, local and foreign privacy laws, such as the European Union’s General Data Protection Regulation (“GDPR”) and the Health Insurance Portability and Accountability Act, could result in lost sales, extensive remediation costs, and legal liability including severe penalties, regulatory action and reputational harm. The GDPR became effective in 2018, for example, and requires companies to meet enhanced requirements regarding the processing of personal data, and provides data subjects with various rights, including the right to request correction or deletion of their personal data. Failure to meet GDPR requirements could result in penalties of up to 4% of worldwide revenue. Despite implementation of reasonable technical, administrative, and physical safeguards, and our efforts and investments in technology to secure our ecosystem, no computer network or system can ever be 100% secure. Given the sophisticated and evolving threat landscape, system disruptions or data incidents can occur and result in the compromise or misappropriation of personal or confidential information. In addition, in the event of a data incident, failure to comply with applicable security requirements or timely rectify a security issue may result in fines and notice obligations to regulators, consumers, or third parties, and the imposition of restrictions on our ability to accept payment by credit or debit cards. In addition, the Nasdaq Capital Market.
Wepayment card industry (“PCI”) is controlled by a limited number of vendors that have less than 300 holders of recordthe ability to impose changes in PCI’s fee structure and operational requirements on our payment processing vendors without negotiation. Such changes in fees and operational requirements may result in the failure to comply with PCI security standards, as of our latest information, a fact whichwell as significant unanticipated expenses. Such failures could make us eligible to terminate voluntarily the registration of our common stock with the SEC and therefore suspend our reporting obligations with the SEC under the Exchange Act and become a non-reporting company. If we were to cease reporting with the SEC, we would no longer be eligible to maintain the listing of our common stock on the Nasdaq Capital Market, which we would expect to materially adversely affect the liquidityour operating results and market pricefinancial condition. Furthermore, we maintain cybersecurity insurance coverage at levels that we believe are appropriate for our common stock. The Nasdaq Capital Market has several additional quantitativebusiness. However, the costs related to significant security breaches or disruptions could be material and qualitative requirements companies must comply withexceed the limits of the cybersecurity insurance we maintain against such risks, and given the increase in cyberattacks, cybersecurity insurance providers are increasingly raising premiums while narrowing the scope of coverage. If the amounts of our insurance coverage are inadequate to maintain this listing. While we believe, we are currently in compliance with all Nasdaq requirements, there can be no assurance we will continue to meet Nasdaq listing requirements, that Nasdaq will interpret these requirementssatisfy any damages and losses in the same mannerevent of a cybersecurity incident, we do if we believe we meetmay have to expend significant resources to mitigate the requirements, or that Nasdaq will not changeimpact of such requirements or add new requirementsan incident, and to include requirements we do not meet in the future.develop and implement protections to prevent future incidents from occurring. Such financial exposure could have a material adverse effect on our business.
If we are delisted from the Nasdaq Capital Market, our Public Common Stock may be considered a penny stock under the regulations of the SEC and would therefore be subject to rules that impose additional sales practice requirements on broker-dealers who sell our securities. The additional burdens imposed upon broker-dealers may discourage broker-dealers from effecting transactions in our Public Common Stock, which could severely limit market liquidity of the Public Common Stock and any stockholder's ability to sell our securities in the secondary market. This lack of liquidity would also likely make it more difficult for us to raise capital in the future.
We may not be able to continue to achieve sustained profitability or increase profitability on a quarterly or annual basis.
Prior to 2005, we incurred net losses on an annual basis since our inception in 1988 and, asAs of December 31, 2017,2022, we had an accumulated deficit of $143.5$168.5 million. Relatively small differences in our performance metrics may cause us to generate an operating or net loss in future periods. Our ability to continue to be profitable in future periods will depend, in part, on our ability to increase sales, in our CCA segment, including maintaining and growing our installed base of instruments and related consumables, to maintain or increase gross margins and to limit the increase in our operating expenses to a reasonable level as well as avoid or effectively manage any unanticipated issues. We may not be able to generate, sustain or increase profitability on a quarterly or annual basis. If we cannot achieve or sustain profitability for an extended period, we may not be able to fund our expected cash needs, including the repayment of debt as it comes due, or continue our operations.
We may face product returns and product liability litigation in excess of, or not covered by, our insurance coverage or indemnities and/or warranties from our suppliers. If we become subject to product liability claims resulting from defects in our products, we may fail to achieve market acceptance of our products and our sales could substantially decline.
The testing, manufacturing and marketing of our current products as well as those currently under development entail an inherent risk of product liability claims and associated adverse publicity. Following the introduction of a product, adverse side effects may be discovered. Adverse publicity regarding such effects could affect sales of our other products for an indeterminate time period. To date, we have not experienced any material product liability claims, but any claim arising in the future could substantially harm our business. Potential product liability claims may exceed the amount of our insurance coverage or may be excluded from
coverage under the terms of the policy. We may not be able to continue to obtain adequate insurance at a reasonable cost, if at all. In the event that we are held liable for a claim against which we are not indemnified or for damages exceeding the $10 million limit of our insurance coverage or which results in significant adverse publicity against us, we may lose revenue, be required to make substantial payments which could exceed our financial capacity and/or lose or fail to achieve market acceptance.
We may be held liable for the release of hazardous materials, which could result in extensive remediation costs or otherwise harm our business.
Certain of our products and development programs produced at our Des Moines, Iowa facility involve the controlled use of hazardous and bio hazardousbiohazardous materials, including chemicals and infectious disease agents. Although we believe that our safety procedures for handling and disposing of such materials comply with the standards prescribed by applicable local, state and federal regulations, weWe cannot eliminate the risk of accidental contamination or injury from these materials. In the event of such an accident, we could be held liable for any fines, penalties, remediation costs or other damages that result. Our liability for the release of hazardous materials could exceed our resources, which could lead to a shutdown of our operations, significant remediation costs and potential legal liability. In addition, we may incur substantial costs to comply with environmental regulations if we choose to expand our manufacturing capacity.
Risks related to our common stock
Our stock price has historically experienced high volatility, and could do so in the future, including experiencing a material price decline resulting from a large sale in a short period of time. This volatility could affect the value of our common stock.
Should a relatively large stockholder decide to sell a large number of shares in a short period of time, it could lead to an excess supply of our shares available for sale and correspondingly result in a significant decline in our stock price.
The securities markets have experienced significant price and volume fluctuations and the market prices of securities of many small cap companies have in the past been, and can in the future be expected to be, especially volatile. During the year ended December 31, 2022, the closing price of our common stock has ranged from a low of $60.21 to a high of $171.74, and the closing price of our common stock on February 16, 2023 was $83.41 per share. Fluctuations in the trading price or liquidity of our common stock may adversely affect our ability to raise capital through future equity financings. Factors that may have a significant impact on the market price and marketability of our common stock include:
•stock sales by large stockholders or by insiders;
•changes in the outlook for our business;
•our quarterly operating results, including as compared to expected revenue or earnings and in comparison to historical results;
•termination, cancellation or expiration of our third-party supplier relationships;
•announcements of technological innovations or new products by our competitors or by us;
•litigation;
•regulatory developments, including delays in product introductions;
•developments or disputes concerning patents or proprietary rights;
•availability of our revolving line of credit and compliance with debt covenants;
•releases of reports by securities analysts;
•economic and other external factors;
•issuances of equity or equity-linked securities by us; and
•general market conditions
In the past, following periods of volatility in the market price of a company’s securities, securities class action litigation has often been instituted. If a securities class action suit is filed against us, it is likely we would incur substantial legal fees and our management’s attention and resources would be diverted from operating our business in order to respond to the litigation.
Our NOL Protective Amendment could adversely impact the value and trading liquidity of our common stock.
On May 4, 2010, our stockholders approved an amendment (the “NOL Protective Amendment”) to our Certificate of Incorporation. The NOL Protective Amendment places restrictions on the transfer of our common stock that could adversely affect our ability to use our domestic Federal Net Operating Loss carryforward (“NOL”). In particular, the NOL Protective Amendment prevents the transfer of shares without the approval of our board of directors if, as a consequence, an individual, entity or groups of individuals or entities would become a 5-percent holder under Section 382 of the Internal Revenue Code of 1986, as amended, and the related Treasury regulations, and also prevents any existing 5-percent holder from increasing his or her ownership position in the Company without the approval of our board of directors. Any transfer of shares in violation of the NOL Protective Amendment (a “Transfer Violation”) shall be void ab initio under the our Certificate of Incorporation and our board of directors has procedures under our Certificate of Incorporation to remedy a Transfer Violation including requiring the shares causing such Transfer Violation to be sold and any profit resulting from such sale to be transferred to a charitable entity chosen by the Company’s board of directors in specified circumstances. The NOL Protective Amendment could have an adverse impact on the value and trading liquidity of our stock if certain buyers who would otherwise have bid on or purchased our stock, including buyers who may not be comfortable owning stock with transfer restrictions, do not bid on or purchase our stock as a result of the NOL Protective Amendment. In addition, because some corporate takeovers occur through the acquirer’s purchase, in the public market or otherwise, of sufficient shares to give it control of a company, any provision that restricts the transfer of shares can have the effect of preventing a takeover. The NOL Protective Amendment could discourage or otherwise prevent accumulations of substantial blocks of shares in which our stockholders might receive a substantial premium above market value and might tend to insulate management and the board of directors against the possibility of removal to a greater degree than had the NOL Protective Amendment not passed.
In February 2018, our board of directors granted a waiver to a non-affiliated stockholder to allow the purchase, subject to certain limitations, of up to 730,000 shares of our common stock without causing a Transfer Violation. This waiver can be withdrawn by our board of directors at any time, in which case the non-affiliated stockholder is to only sell our stock until the non-affiliated stockholder ceases to be a Five Percent Stockholder (as defined in our Certificate of Incorporation). On August 7, 2019, our board of directors determined to waive the application of any NOL transfer restrictions contained in our Certificate of Incorporation with respect to the issuance and transfer of our Notes, any issuance of shares of the Company’s
common stock upon conversion of any of the Notes, and any subsequent and further transfer of any such common stock, to the extent such restrictions would otherwise have been applicable thereto. In January 2020, our board of directors waived the application of any NOL transfer restrictions contained in our Certificate of Incorporation with respect to the issuance and sale of the shares of preferred stock and underlying common stock issued in connection with the financing of the scil acquisition. In February 2021, our board of directors waived the application of any NOL transfer restrictions contained in our Certificate of Incorporation with respect to the issuance and transfer of the shares of common stock in our March 2021 public offering, and any subsequent and further transfer of any such shares, to the extent such restrictions would otherwise have been applicable thereto. In July 2022, our board of directors granted a waiver to a non-affiliated stockholder with respect to the acquisition of shares by such stockholder in reliance on receipt of certain representations and covenants from such stockholder, to the extent such restrictions would have otherwise been applicable thereto. This waiver can be withdrawn with 90 days of notice to the stockholder. These waivers, and any similar waivers that our board of directors may grant in the future, may make it more likely that we have a “change of ownership” as defined under the provisions of Section 382 of the Internal Revenue Code of 1986, as amended, which could place a significant restriction on our ability to utilize our domestic Federal NOL in the future and materially adversely affect our results of operations. State net operating loss carryforwards may be similarly or more stringently limited. Any limitations on our ability to use our pre-change of ownership net operating losses to offset taxable income could potentially result in increased future tax liability to us.
If securities analysts do not publish research or reports about our business, or if they downgrade our stock, the price of our stock could decline.
The trading market for our common stock will likely be influenced by research and reports that securities or industry analysts publish about us or our business. In the event securities or industry analysts cover our company and one or more of these analysts downgrades our stock, lowers their price target, or publishes unfavorable or inaccurate research about our business, our stock price would likely decline. If one or more of these analysts ceases coverage of our company or fails to publish reports on us regularly, demand for our stock could decrease, which could cause our stock price and trading volume to decline.
We have not declared or paid any dividends on our common stock since 2012 and we do not anticipate paying any cash dividends in the foreseeable future.
We have not declared or paid any dividends on our common stock since October 2012. We intend to retain any earnings to finance the operation and expansion of our business, and we do not anticipate paying any cash dividends in the future. As a result, investors in our common stock may only receive a return on their investment in our common stock if the market price of our common stock increases.
We have fewer than 200 holders of record, which could allow us to terminate voluntarily the registration of our common stock with the SEC and after which we would no longer be eligible to maintain the listing of our common stock on The Nasdaq Capital Market. We may also be unable to otherwise maintain our listing on The Nasdaq Capital Market.
We have fewer than 200 holders of record as of our latest information, a fact which could make us eligible to terminate voluntarily the registration of our common stock with the SEC and therefore suspend our reporting obligations with the SEC under the Exchange Act and become a non-reporting company. If we were to cease reporting with the SEC, we would no longer be eligible to maintain the listing of our common stock on The Nasdaq Capital Market, which we would expect to materially adversely affect the liquidity and market price for our common stock. The Nasdaq Capital Market has several additional quantitative and qualitative requirements companies must comply with to maintain this listing. While we believe we are currently in compliance with Nasdaq requirements, there can be no assurance we will continue to meet Nasdaq listing requirements, that Nasdaq will interpret these requirements in the same manner we do if we believe we meet
the requirements, or that Nasdaq will not change such requirements or add new requirements to include requirements we do not meet in the future.
If we were delisted from The Nasdaq Capital Market, our common stock may be considered a penny stock under the regulations of the SEC and would therefore be subject to rules that impose additional sales practice requirements on broker-dealers who sell our securities. The additional burdens imposed upon broker-dealers may discourage broker-dealers from effecting transactions in our common stock, which could severely limit market liquidity of the common stock and any stockholder’s ability to sell our securities in the secondary market. This lack of liquidity would also likely make it more difficult for us to raise capital in the future.
Provisions in our Certificate of Incorporation and bylaws and under Delaware law might discourage, delay or prevent a change of control of our company or changes in our management and, therefore, depress the trading price of our common stock.
Our Certificate of Incorporation and bylaws contain provisions that could depress the trading price of our common stock by acting to discourage, delay or prevent a change of control of our company or changes in our management that the stockholders of our company may deem advantageous. These provisions:
•place restrictions on the transfer of our common stock that could adversely affect our ability to use our domestic NOL, which can have an effect of preventing a takeover;
•provide that our board of directors may, without stockholder approval, issue shares of preferred stock with special voting or economic rights;
•prohibit stockholders from calling a special meeting of our stockholders;
•provide that the board of directors is expressly authorized to make, alter or repeal our bylaws; and
•establish advance notice requirements for nominations for elections to our board of directors or for proposing matters that can be acted upon by stockholders at stockholder meetings.
Additionally, we are subject to Section 203 of the Delaware General Corporation Law, which generally prohibits a Delaware corporation from engaging in any of a broad range of business combinations with any “interested” stockholder for a period of three years following the date on which the stockholder became an “interested” stockholder and which may discourage, delay, or prevent a change of control of our company.
Any provision of our Certificate of Incorporation, bylaws or Delaware law that has the effect of delaying or deterring a change in control could limit the opportunity for our stockholders to receive a premium for their shares of our common stock, and could also negatively affect the price that some investors are willing to pay for our common stock.
Risks related to the outstanding Notes
Servicing our debt will require a significant amount of cash, and we may not have sufficient cash flow from our business to pay our substantial debt.
Our ability to make scheduled payments of the principal of, to pay interest on or to refinance our indebtedness, including the amounts payable under the Notes, depends on our future performance, which is subject to economic, financial, competitive and other factors beyond our control. Our business may not continue to generate cash flow from operations in the future sufficient to service our debt and make necessary capital expenditures. If we are unable to generate such cash flow, we may be required to adopt one or more alternatives, such as selling assets, restructuring debt or obtaining additional equity capital on terms that may be onerous or highly dilutive. Our ability to refinance our indebtedness will depend on the capital markets and our financial condition at such time. We may not be able to engage in any of these activities or engage in these activities on desirable terms, which could result in a default on our debt obligations.
We may not have the ability to raise the funds necessary to settle conversions of the Notes in cash or to repurchase the Notes upon a fundamental change, and our future debt may contain, limitations on our ability to pay cash upon conversion or repurchase of the Notes.
Holders of the Notes will have the right to require us to repurchase their notes upon the occurrence of a fundamental change at a fundamental change repurchase price equal to 100% of the principal amount of the Notes to be repurchased, plus accrued and unpaid interest, if any. In addition, upon conversion of the Notes, unless we elect to deliver solely shares of our common stock to settle such conversion (other than paying cash in lieu of delivering any fractional share), we will be required to make cash payments in respect of the Notes being converted. However, we may not have enough available cash or be able to obtain financing at the time we are required to make repurchases of Notes surrendered therefor or Notes being converted. In addition, our ability to repurchase the Notes or to pay cash upon conversions of the Notes may be limited by law, by regulatory authority or by agreements governing our existing and future indebtedness. Our failure to repurchase Notes at a time when the repurchase is required by the indenture or to pay any cash payable on future conversions of the Notes as required by the indenture would constitute a default under the indenture. If a fundamental change occurs, or if the Notes are accelerated due to an event of default under the indenture, such events may lead to a default under agreements governing our future indebtedness. Any future indebtedness of ours may contain restrictions on our ability to pay cash upon conversion or repurchase of the Notes. If the repayment of the related indebtedness were to be accelerated after any applicable notice or grace periods, we may not have sufficient funds to repay the indebtedness and repurchase the Notes or make cash payments upon conversions thereof.
The conditional conversion feature of the Notes, if triggered, may adversely affect our financial condition and operating results.
In the event the conditional conversion feature of the Notes is triggered, holders of Notes will be entitled to convert the Notes at any time during specified periods at their option. If one or more holders elect to convert their Notes, unless we elect to satisfy our conversion obligation by delivering solely shares of our common stock (other than paying cash in lieu of delivering any fractional share) or by electing an exchange process for the Notes and a designated financial institution delivers the applicable conversion consideration, we would be required to settle a portion or all of our conversion obligation through the payment of cash, which could adversely affect our liquidity. In addition, even if holders of Notes do not elect to convert their Notes, we could be required under applicable accounting rules to reclassify all or a portion of the outstanding principal of the Notes as a current rather than long-term liability, which would result in a material reduction of our net working capital.
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Item 1B. | Unresolved Staff Comments |
Item 1B.Unresolved Staff Comments
None.
Item 2.Properties
Our principal administrative and research and development activities are located in Loveland, Colorado. We lease approximately 60,000 square feet at a facility in Loveland, Colorado under an agreement whichthat expires in 2023. On February 8, 2023, we signed a 10-year lease for a new facility in Loveland of approximately 60,000 square feet to replace the current building, which will commence in November 2023. Our principal production facility located in Des Moines, Iowa, consists of 168,000approximately 160,000 square feet of buildings on 34 acres of land, which we own. We also ownlease a 175-acre farmbuilding in Maryland that is used principally for testing products,research, development and manufacturing. Following the acquisition of LightDeck on January 3, 2023, we lease approximately 65,000 square feet at a manufacturing facility in Longmont, Colorado, and approximately 31,000 square feet at a facility in Boulder, Colorado.
Our principal international administrative and research and development activities are located in Carlisle, Iowa. Our European facility in Fribourg, Switzerland hasGermany, France, Spain, Canada, Italy and Malaysia. In Germany, we own an office space and a warehouse that are approximately 6,00045,000 and 15,000 square feet, leased underrespectively, and lease a showroom that totals approximately 3,000 square feet. In addition, in Germany, we lease approximately 25,000 square feet at a facility for VetZ's administrative and research and development activities. In Spain and Malaysia, we lease office spaces and warehouses. In Canada, we lease an agreement which expires in 2022.office space. In Italy, we own an office space, warehouse, and showroom and lease an office and a reference lab facility. In France, we own an office space and lease an office space and warehouse.
Item 3.Legal Proceedings
From time to time, wethe Company may be involved in litigation relatedrelating to claims arising out of ourits operations. On March 12, 2015, a complaint was filed against us by Shaun Fauley in the United States District Court Northern District of Illinois alleging our transmittal of unauthorized faxes in violation of the federal Telephone Consumer Protection Act of 1991, as amended by the Junk Fax Prevention Act of 2005, as a class action seeking stated damages of the greater of actual monetary loss or five hundred dollars per violation. The Company intends to defend itself vigorously in this matterrecords accruals for outstanding legal matters when it believes it is probable that a loss will be incurred, and at this time is unable to estimate a possible loss or range of loss. the amount can be reasonably estimated.
As of December 31, 2017,2022, we were not a party to any other legal proceedings that are expected, individually or in the aggregate, to have a material adverse effect on our business, financial condition or operating results.
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Item 4. | Mine Safety Disclosures |
Item 4. Mine Safety Disclosures
Not applicable.
PART II
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Item 5. | Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities |
Item 5.Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Our Public common stockCommon Stock is quoted on the Nasdaq Capital Market under the symbol "HSKA". The following table sets forth the high and low sales prices for our Public common stock as reported by the Nasdaq Capital Market for the periods indicated below:
|
| | | | | | | |
| | High | | Low |
| 2016 | |
| | |
|
| First Quarter | $ | 38.29 |
| | $ | 27.00 |
|
| Second Quarter | $ | 40.73 |
| | $ | 26.26 |
|
| Third Quarter | $ | 57.41 |
| | $ | 37.49 |
|
| Fourth Quarter | $ | 74.33 |
| | $ | 46.51 |
|
| 2017 | |
| | |
|
| First Quarter | $ | 105.00 |
| | $ | 70.84 |
|
| Second Quarter | $ | 110.25 |
| | $ | 87.01 |
|
| Third Quarter | $ | 115.00 |
| | $ | 84.40 |
|
| Fourth Quarter | $ | 99.21 |
| | $ | 75.21 |
|
| 2018 | | | |
| First Quarter (through March 8, 2018) | $ | 83.98 |
| | $ | 56.59 |
|
As of March 8, 2018,February 16, 2023, there were approximately 260177 holders of record of our Public Common Stock, and approximately 3,900 beneficial stockholders.Stock. We do not anticipate any dividend payments in the foreseeable future.
Issuer Purchases of Equity Securities
The following table sets forth information about the Company's purchases of our outstanding Public Common Stock during the quarter ended December 31, 2022: | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Period | | Total Number of Shares Purchased (1) | | Average Price Paid per Share (1) | | Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs | | Approximate Dollar Value of Shares that May Yet be Purchased Under Plans or Programs |
| October 2022 | | — | | | $ | — | | | — | | | $ | — | |
| November 2022 | | 717 | | | $ | 64.41 | | | — | | | $ | — | |
| December 2022 | | — | | | $ | — | | | — | | | $ | — | |
| | 717 | | | $ | 64.41 | | | — | | | $ | — | |
| | | | | | | | |
| (1) Shares of Public Common Stock we purchased between October 1, 2022 and December 31, 2022 were solely for the cancellation of shares of stock withheld for related tax obligations. |
STOCK PRICE PERFORMANCE GRAPH
The following graph provides a comparison over the five-year period ended December 31, 20172022 of the cumulative total shareholder return from a $100 investment in the Company's common stock with the NASDAQ Medical Supplies Index and the NASDAQ Composite Total Return:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Dec-17 | | Dec-18 | | Dec-19 | | Dec-20 | | Dec-21 | | Dec-22 |
| Heska Corporation | $ | 100 | | | $ | 107 | | | $ | 120 | | | $ | 182 | | | $ | 228 | | | $ | 77 | |
| NASDAQ Medical Supplies Index | $ | 100 | | | $ | 107 | | | $ | 142 | | | $ | 180 | | | $ | 216 | | | $ | 141 | |
| | | | | | | | | | | |
| NASDAQ Composite Total Return Index | $ | 100 | | | $ | 97 | | | $ | 133 | | | $ | 192 | | | $ | 235 | | | $ | 159 | |
Item 6. [Reserved]
|
| | | | | | | | | | | | | | | | | | | | | | | |
| | Dec-12 | | Dec-13 | | Dec-14 | | Dec-15 | | Dec-16 | | Dec-17 |
| Heska Corporation | $ | 100 |
| | $ | 108 |
| | $ | 224 |
| | $ | 478 |
| | $ | 884 |
| | $ | 990 |
|
| NASDAQ Medical Supplies Index | $ | 100 |
| | $ | 122 |
| | $ | 147 |
| | $ | 163 |
| | $ | 185 |
| | $ | 243 |
|
| NASDAQ Composite Total Return Index | $ | 100 |
| | $ | 140 |
| | $ | 161 |
| | $ | 172 |
| | $ | 187 |
| | $ | 243 |
|
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Item 6. | Selected Financial Data |
The selected consolidated statements of income and consolidated balance sheets data have been derived from our consolidated financial statements. The information set forth below is not necessarily indicative of the results of future operations and should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Consolidated Financial Statements and related Notes included as Items 7 and 8, respectively, in this Form 10-K.
|
| | | | | | | | | | | | | | | | | | | |
| | 2017 | | 2016 | | 2015 | | 2014 | | 2013 |
| | (In thousands, except per share data) |
| Consolidated Statements of Income Data: | | | | | | | | | |
| Revenue, net | $ | 129,341 |
| | $ | 130,083 |
| | $ | 104,597 |
| | $ | 89,837 |
| | $ | 78,339 |
|
| Net income (loss) attributable to Heska Corporation | $ | 9,953 |
| | $ | 10,508 |
| | $ | 5,239 |
| | $ | 2,603 |
| | $ | (1,196 | ) |
| | | | | | | | | | |
| Earnings (loss) per share attributable to Heska Corporation: | | | | | | | | | |
| Basic earnings (loss) per share attributable to Heska Corporation | $ | 1.42 |
| | $ | 1.55 |
| | $ | 0.80 |
| | $ | 0.44 |
| | $ | (0.21 | ) |
| Diluted earnings (loss) per share attributable to Heska Corporation | $ | 1.30 |
| | $ | 1.43 |
| | $ | 0.74 |
| | $ | 0.41 |
| | $ | (0.21 | ) |
| Basic weighted-average common shares outstanding | 7,026 |
| | 6,783 |
| | 6,509 |
| | 5,951 |
| | 5,755 |
|
| Diluted weighted-average common shares outstanding | 7,642 |
| | 7,361 |
| | 7,074 |
| | 6,409 |
| | 5,755 |
|
| | | | | | | | | | |
| Consolidated Balance Sheets Data: | | | | | | | | | |
| Total assets | $ | 135,787 |
| | $ | 130,844 |
| | $ | 109,719 |
| | $ | 96,844 |
| | $ | 93,553 |
|
| Long-term obligations and redeemable preferred stock | $ | — |
|
| $ | — |
|
| $ | — |
|
| $ | — |
|
| $ | — |
|
| | | | | | | | | | |
| Cash dividends declared per share: | $ | — |
| | $ | — |
| | $ | — |
| | $ | — |
| | $ | — |
|
| |
Item 7. | Management's Discussion and Analysis of Financial Condition and Results of Operations |
Item 7.Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with "Selected Financial Data" and the Consolidated Financial Statements and related Notes included in Items 6 andPart II. Item 8 respectively, of this Form 10-K. This discussion contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Rule 175 promulgated thereunder, and Section 21E of the Securities Exchange Act of 1934, as amended, that involve risks and uncertainties.uncertainties, and can generally be identified by our use of the words "scheduled," "anticipates," "expects," "intends," "plans," "believes," "seeks," "estimates," and variations of such words and similar expressions. Such statements, which include statements concerning future revenue sources and concentration, international market expansion, gross profit margins,margin, selling and marketing expenses, remaining minimum performance obligations, research and development expenses, general and administrative expenses, capital resources, additional financings or borrowings and additional losses, are subject to risks and uncertainties, including, but not limited to, those discussed below and elsewhere in this Form 10-K, particularly in Item 1A1A. "Risk Factors," that could cause actual results to differ materially from those projected. The forward-looking statements set forth in this Form 10-K are as of the close of business on March 8, 2018,February 27, 2023, and we undertake no duty and do not intend to update this information, except as required by applicable securities laws. If we updated one or more forward looking statements, no inference should be drawn that we will make additional updates with respect to those or other forward-looking statements. All forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by the cautionary statements set forth above. See "Statement Regarding Forward Looking Statements."
On January 3, 2023, the Company completed the acquisition of MBio Diagnostics, Inc., d/b/a LightDeck Diagnostics ("LightDeck") which represents a meaningful increase in our intellectual property portfolio as well as our manufacturing and research and development capabilities. Refer to Note 4 - Investments in Unconsolidated Affiliates and Note 19 - Subsequent Events to the consolidated financial statements included in Part II. Item 8 of this Annual Report on Form 10-K. A discussion of significant changes from the periods ending December 31, 2021 compared to December 31, 2020 can be found in Part II. Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report on Form 10-K for the year ended December 31, 2021.
Overview
We sell, advanced veterinarymanufacture, market and support diagnostic and specialty products.products and solutions for veterinary practitioners. Our offerings include point of care diagnosticsportfolio includes POC diagnostic laboratory instruments and supplies,consumables including rapid assay diagnostic products; digital cytology services; POC digital imaging diagnostics products, vaccines,diagnostic products; local and cloud-based data services,services; PIMS and related software and support; reference laboratory testing; allergy testing and immunotherapy, and single-use offerings such as in-clinic diagnostic tests andimmunotherapy; heartworm preventive products.products; and vaccines. Our coreprimary focus is on supporting companion animal veterinarians in the canine and feline healthcare space.providing care to their patients.
Our business is composed of two operating and reportable segments: North America and International. North America consists of the United States, Canada and Mexico. International consists of geographies outside of North America, primarily our operations in Germany, Italy, Spain, France, Switzerland, Australia and Malaysia. The product groups described below are offered in both segments Core Companion Animal Health ("CCA")unless otherwise noted.
POC Laboratory Instruments and Other Vaccines, Pharmaceuticals and Products ("OVP"). The CCA segment includes, primarily for canine and feline use, point of care laboratory instruments and supplies, digital imaging products, software and services, local and cloud-based data services, allergy testing and immunotherapy, and single use offerings such as in-clinic diagnostic tests and heartworm preventive products. The OVP segment includes private label vaccine and pharmaceutical production, primarily for cattle but also for other species including equine, porcine, avian, feline and canine.
Core Companion Animal Health ("CCA"), represented 81% of our 2017 revenue. Other Vaccines, Pharmaceuticals and Products ("OVP"), represented 19% of our 2017 revenue. OVP products are sold by third parties under third party labels.
The CCA segment includes, primarily for canine and feline use, point of care diagnostics consisting of laboratory instruments and supplies, digital imaging products, software and services, local and cloud-based data services, allergy testing and immunotherapy, and single use offerings such as in-clinic diagnostic tests and heartworm preventive products.
RevenueSales include outright instrument sales, revenue recognized from point of care laboratory includes instruments, consumables,sales-type lease treatment, and other revenue sources, such as service represented $54.9 million, $48.8 million,charges for repairs and $38.6 million, ofreference laboratory sales. Revenue from our 2017, 2016, and 2015POC laboratory consumables, a recurring revenue respectively. Revenue in this areastream, primarily involves placing an instrument under contract in the field and generating future revenue from testing consumables, such as cartridges and reagents, as that instrument is used. Approximately $39.2 million, $36.3 million, and $30.6 million of our 2017, 2016, and 2015 revenue, respectively, resulted from the sale of such testing consumables to an installed base of instruments. Approximately $13.8 million, $10.4 million, and $5.9 million, of our 2017, 2016 and 2015 revenue, respectively, was from instrument sales. Approximately $1.9 million, $2.0 million, and $2.2 million, of our 2017, 2016 and 2015 revenue, respectively, was from other revenue sources, such as charges for repairs. Instruments placed under subscription agreements are considered operating or sales-type (capital) leases, depending on the duration and other factors of the underlying agreement. A loss of, or disruption in, the
supply of consumables we are selling to an installed base of instruments could substantially harm our business. AllThe majority of our point of carePOC laboratory and other non-imaging instruments and suppliesconsumables are supplied by third parties, who typically own the product rights and supply the product to us under marketing and/or distribution agreements. In many cases, we have collaborated with a third party to adapt a human instrument for veterinary use. Major products in this area include our instruments for chemistry, hematology, blood gas, urine fecal, and immunodiagnostic testing and their affiliated operating consumables.consumable as well as our rapid assay diagnostic tests and digital cytology services. More recently, the Company has developed and/or acquired product rights pertaining to our urine fecal and immunodiagnostic platforms.
Imaging hardware, software and services represented approximately $21.9 million, $29.6 million, and $19.6 million of 2017, 2016, and 2015 revenue, respectively. Digital radiography
Radiography is the largest product offering in this area,POC Imaging and Informatics, which also includes digital and computed radiography, ultrasound instruments. Digital radiographyinstruments, and diagnostic data and support. Radiography solutions typically consist of a combination of hardware and software placed with a customer, often combined with an ongoing service and support contract. We sell our imaging solutions both in the United States and internationally. Our experience has been that most of the revenue is generated at the time of sale, in this area, in contrast to the point of care diagnosticsPOC diagnostic laboratory placements discussed above where ongoing consumable revenue is often a larger component of economic value as a given instrument is used.
Other CCA revenue, including single use diagnostic In 2022, the Company acquired VetZ, a provider of PIMS and other tests,clinical practice-related applications, which are primarily offered in our International segment.
Pharmaceuticals, Vaccines and Diagnostic ("PVD") revenue primarily includes pharmaceuticals and biologicals as well as research and development, licensing and royalty revenue, represented $25.6 million, $26.3 million, and $23.5 million of our 2017, 2016, and 2015 revenue, respectively.revenue. Since items in this area are often single use by their nature, our typical aim is to build customer satisfaction and loyalty for each product, generate repeat annual sales from existing customers and expand our customer base in the future. Products in this area are both supplied by third parties and provided by us. Major products and services in this area include heartworm diagnostic tests and preventives and allergy test kits, allergy immunotherapy and testing.
We consider the CCA segment to be
Other Vaccines and Pharmaceuticals ("OVP") revenue is generated in our core businessUSDA, FDA and devote most of our management time and other resources to improving the prospects for this segment. Maintaining a continuing, reliable and economic supply of products we currently obtain from third parties is critical to our success in this area. Virtually all of our sales and marketing expenses occur in the CCA segment. The majority of our research and development spending is dedicated to this segment as well.
All of our CCA products are ultimately sold primarily to or through veterinarians. In many cases, veterinarians will mark up their costs to their customer. The acceptance of our products by veterinarians is critical to our success. CCA products are sold directly to end users by us as well as through distribution relationships, such as our agreement with Intervet Inc., d/b/a Merck Animal Health ("Merck Animal Health"), the sale of kits to conduct blood testing to third-party veterinary diagnostic laboratories and independent third-party distributors. Revenue from direct sales and distribution relationships represented approximately 58% and 42%, respectively, of CCA 2017 revenue, 61% and 39%, respectively, of CCA 2016 revenue, and 66% and 34%, respectively, of CCA 2015 revenue.
The OVP segment includes our 168,000 square foot USDA and FDADEA licensed production facility in Des Moines, Iowa. We view this facility as an asset which could allow us to control our cost of goods on any pharmaceuticals and vaccines that we may commercialize in the future. We have increased integration of this facility with our operations elsewhere. For example, virtually all of our USU.S. inventory, excluding our imaging products, is now stored at this facility and related fulfillment logistics are
managed there. CCA segmentOur OVP revenue includes vaccines and pharmaceuticals produced for third parties. OVP is attributable only to the North America segment.
Our products manufactured at this facility are transferred at cost and are not recorded as revenue for our OVP segment. We view OVP reported revenue as revenueultimately sold primarily to cover the overhead costs of the facility and to generate incremental cash flow to fund our CCA segment.
Historically, a significant portionor through veterinarians. The acceptance of our OVP segment's revenue has been generated fromproducts by veterinarians is critical to our success. These products are sold directly to end users by us as well as through distribution relationships, such as the sale of certain bovine vaccines,kits to conduct blood testing to third-party veterinary diagnostic laboratories and sales to independent third-party distributors. Revenue from direct sales and distribution relationships represented 78% and 22%, respectively, of revenue for the year ended December 31, 2022 and 72% and 28%, respectively, for both the years ended December 31, 2021 and December 31, 2020.
Effects of Certain Industry and Economic Factors and Trends on Results of Operations
Industry Trends - We continue to see demand for companion animal healthcare, which have been sold primarily under the Titanium®supported solid growth for POC diagnostic products and MasterGuard® brands.services compared to very strong prior year. We have an agreementa healthy liquidity position with Eli Lillycash of $156.6 million as of December 31, 2022. We continue to be active in mergers and Company ("Eli Lilly")acquisitions and its affiliates operating through Elanco forother pursuits that support our growth in the companion animal healthcare space.
productionSupply Chain and Logistics - Due to our dependence on global suppliers, manufacturers and shipping routes, we are experiencing intermittent delays in receiving supply, increased shipping costs and some targeted increase in materials cost. Because our long-term subscription programs, the commercial program of our largest revenue category, POC laboratory instruments and consumables, include annual price adjustments at a greater of 4% or the consumer price index, we are able to mitigate some of these vaccines. Our OVP segment also produces vaccinescosts in this highly inflationary environment. Further, we have worked closely with our suppliers to evaluate and pharmaceuticals for other third parties.identify products with long-lead time parts and provided advanced purchase notification and have secured products in advance to further mitigate supply disruption.
Inflation, Foreign Currency, Interest Rate Risk Impact - Refer to Item 7A. Quantitative and Qualitative Disclosures about Market Risk of this form 10-K.
Critical Accounting Estimates
Our discussionNote 1 - Operations and analysisSummary of our financial condition and results of operations is based uponSignificant Accounting Policies to the consolidated financial statements which have been preparedincluded in accordance with US generally acceptedPart II. Item 8 of this Annual Report on Form 10-K describes the significant accounting principles ("GAAP"). Thepolicies used in preparation of these consolidated financial statements in conformity with GAAP requires management to makestatements. We believe the following critical accounting estimates and assumptions may have a material impact on reported financial condition and operating performance and involve significant levels of judgment to account for highly uncertain matters or are susceptible to significant change. In each of these areas, management makes estimates based on historical results, current trends and future projections. Therefore, these are considered to be our critical accounting policies and estimates.
Business Combinations
We account for transactions that affectrepresent business combinations under the reported amountsacquisition method of accounting, which requires us to allocate the total consideration paid for each acquisition to the assets we acquire and liabilities the disclosure of contingent assets and liabilitieswe assume based on their fair values as of the date of acquisition, including identifiable intangible assets. The allocation of the financial statements, and the reported amounts of revenue and expense during the reporting period. Actual results could differ from those estimates. Significantpurchase price utilizes significant estimates are required when establishing the allowance for doubtful accounts and the provision for excess or obsolete inventory, in determining future costs associated with warranties provided, in determining the fair values of identifiable assets acquired and liabilities assumed, especially with respect to intangible assets. We may refine our estimates and make adjustments to the assets acquired and liabilities assumed over a measurement period, overnot to exceed one year.
The Company has financial liabilities resulting from our business combinations, including contingent consideration arrangements and notes payable. We estimate the fair value of these financial liabilities using Level 3 inputs that require the use of numerous assumptions and a probability-weighted outcome analysis, which our obligationsmay change based on the occurrence of future events and lead to increased or decreased operating income in future periods. Estimating the fair value at an acquisition date and in subsequent periods involves significant judgments, including projecting the future financial and product development performance of the acquired businesses. The Company will update its assumptions each reporting period based on new developments and record such amounts at fair value based on the revised assumptions. Changes in the fair value of these financial liabilities are fulfilled under agreementsrecorded in the Consolidated Statements of Loss within general and administrative expenses.
Valuation of Goodwill and Intangibles
A significant portion of the purchase price for acquired businesses is generally assigned to license product rights and/or technology rights, estimatingintangible assets. Intangible assets other than goodwill are initially valued at fair value. If a quoted price in an active market for the identical asset is not readily available at the measurement date, the fair value of the intangible asset is estimated based on discounted cash flows using market participant assumptions, which are assumptions that are not specific to Heska. The selection of appropriate valuation methodologies and the estimation of discounted cash flows require significant assumptions about the timing and amounts of future cash flows, risks, appropriate discount rates, and the useful lives of equipment under leasing arrangements, estimatingintangible assets. When material, we utilize independent valuation experts to advise and assist us in determining the expense associatedfair values of the identified intangible assets acquired in connection with the granting of stock,a business acquisition and in determining the needappropriate amortization methods and periods for and the amount of, a valuation allowance on deferred taxthose intangible assets. We consider the following to be our critical accounting estimates.
Revenue Recognition
We generate our revenue through the sale of products, either by outright purchase by our customers or through a subscription agreement whereby our customers receive equipment and pay us a monthly fee for the usage of the equipment as well as, when applicable, the consumables needed to conduct testing. Outright sales to customersGoodwill is the majority of imaging diagnostics transactions, while subscription placement is the majority of point of care diagnostics laboratory transactions. We also may recognize revenue through licensing of technology product rights, royalties and sponsored research and development. Our policy is to recognize revenue when the applicable revenue recognition criteria have been met, which generally include the following:
Persuasive evidence of an arrangement exists;
Delivery has occurred or services rendered;
Price is fixed or determinable; and
Collectability is reasonably assured.
Revenue from the outright sale of products to customers is recognized after both the goods are shipped to the customer and acceptance has been received, if required, with an appropriate provision for estimated returns and allowances. We do not permit general returns of products sold.
Revenue from our point of care diagnostics laboratory subscription agreements is recognizedinitially valued based on the lengthexcess of the agreements that are signed by our customers. Among other factors, the lengthpurchase price of the agreement determines whether a subscription is considered an operating lease or capital lease. Our capital leases qualify for sales-type lease treatment. For subscription agreements that are considered operating leases, we recognize revenue of our subscriptions ratablybusiness combination over the termfair value of acquired net assets recognized and represents the agreement. The equipment is transferredfuture economic benefits arising from inventory to property, plantother assets acquired that could not be individually identified and equipment and depreciated into cost of goods sold over the term of the agreement, based on the assets’ useful life, typically over a five to seven-year period depending on the circumstance under which the instrument is placed with the customer. Revenue from subscription agreements that are sales-type (capital) leases is recognized, along with the associated cost of the equipment,separately recognized.
We assess goodwill for impairment annually, at the time of placementreporting unit level, in our customer’s location. The amount of revenue recognized at the time of lease
inception is based on, along with other factors, observable prior sales prices of similar equipment sold by us over the prior twelve months, relative to total contract value. We record a shortfourth quarter and long-term capital lease receivable related to sales-type leases.
Revenue from our rentals of digital imaging equipment is recognized ratably over the term of the rental agreement, which is typically over a 26-month period. The equipment is transferred from inventory to property, plant and equipment and depreciated over the assets' useful life. At the conclusion of these arrangements, customers generallywhenever events or circumstances indicate impairment may exist. In evaluating goodwill for impairment, we have the option to (a) extendfirst assess the rental agreement for an additional term, (b) purchasequalitative factors to determine whether it is more-likely-than-not that the items for a price negotiated at the inceptionestimated fair value of the rental,reporting unit is less rental payments paid or (c) paythan its carrying amount as a termination and recovery fee and returnbasis for determining whether it is necessary to perform the items and terminatecomparison of the agreement.
Recording revenue fromestimated fair value of the sale of products involves the use of estimates and management's judgment. We must make a determination at the time of sale whether the customer has the ability to make payments in accordance with arrangements. While we do utilize past payment history and,reporting unit to the extent available for new customers, public credit information in making our assessment,carrying value. The more-likely-than-not threshold is defined as having a likelihood of more than 50 percent. If, after assessing the determinationtotality of whether collectabilityevents or circumstances, we determine that is reasonably assured is ultimately a judgmentit more-likely-than-not that must be made by management. We must also make estimates regarding our future obligations relating to returns, rebates, allowances and similar other programs.
License revenue under arrangements to sell or license product rights or technology rights is recognized as obligations under the agreement are satisfied, which generally occurs over a period of time. Generally, licensing revenue is deferred and recognized over the estimated lifefair value of a reporting is less than its carrying amount, we would then estimate the fair value of the related agreements, products, patents or technology. Nonrefundable licensing fees, marketing rightsreporting unit and milestone payments received under contractual arrangements are deferredcompare it to the carrying value. If the carrying value exceeds the estimated fair value we would recognize an impairment for the difference; otherwise, no further impairment test would be required. In contrast, we can opt to bypass the qualitative assessment for any reporting unit in any period and recognized overproceed directly to quantitative analysis. Doing so does not preclude us from performing the remaining contractual term using the straight-line method.qualitative assessment in any subsequent period.
Recording revenue from license arrangements involves the use of estimates. The primary estimate made by management is determining the useful life of the related agreement, product, patent or technology. We evaluate all
As part of our licensing arrangements by estimating the useful life of either the product or the technology, the length of the agreement or the legal patent life and defer the revenue for recognition over the appropriate period.
We enter into arrangements that include multiple elements. In these situations,goodwill testing process, we must determine whether the various elements meet the criteriaevaluate factors specific to be accounted for as separate elements. If the elements cannot be separated, revenue is recognized once revenue recognition criteria for the entire arrangement have been met or over the period that the Company's obligations to the customer are fulfilled, as appropriate. If the elements are determined to be separable, the revenue is allocated to the separate elements based on relative fair value and recognized separately for each element when the applicable revenue recognition criteria have been met. In accounting for these multiple element arrangements, we must make determinations about whether elements can be accounted for separately and make estimates regarding their relative fair values.
In May 2014, the FASB issued ASU 2014-09, “Revenue from Contracts with Customers” and has subsequently issued several supplemental and/or clarifying ASUs (collectively “ASC 606”). ASC 606 prescribes a single common revenue standard that replaces most existing US GAAP revenue recognition guidance. ASC 606 outlines a five-step model, under which Heska will recognize revenue as performance obligations within a customer contract are satisfied. ASC 606 is intended to provide more consistent interpretation and application of the principles outlined in the standard across filers in multiple industries and within the same industries compared to current practices, which should improve comparability. Along with the issuance of ASC 606, additional cost guidance was issued and codified under ASC 340-40 that outlines the requirement for capitalizing incremental costs of obtaining a contract and costs to fulfill a contract that meet certain capitalization criteria.
Adoption of ASC 606 is required for annual reporting periods beginning after December 15, 2017, including interim periods within the reporting period. Upon adoption, Heska must elect to adopt either retrospectively to each prior reporting period presented (full retrospective method) or using the cumulative effect transition method with the cumulative effect of initial adoption recognized at the date of initial application (modified retrospective method). Heska has elected to adopt the modified retrospective method and apply this method to contracts not yet completed as of January 1, 2018. The cumulative effect of initially applying the new revenue standard is recognized as an adjustment to the opening balance of our fiscal year 2018 retained earnings. The comparative information will not be recast and will continue to be reported under the accounting standards in effect for those periods.
Heska assessed the impact that the future adoption of ASC 606 is expected to have on its Consolidated Financial Statements by analyzing its current portfolio of customer contracts and various revenue streams, including a review of historical accounting policies and practices to identify potential differences in applying the guidance of ASC 606. Heska also performed a comprehensive review of its current processes and systems to determine and implement changes required to support the adoption of ASC 606 on January 1, 2018.
Based on review of customer contracts within our Core Companion Animal segment, Heska has determined the timing of revenue recognition of our product sales, which includes upfront equipment sales and sales of consumables, will continue to be recognized as it is currently, generally upon shipment of products. Also included within CCA are our subscription agreements, which contain a lease of equipment, for which rental income will continue to be recognized under ASC 840, Leases, unless the equipment is considered a sales-type lease and revenue will be recognized under ASC 606 at the point of sale. Often our contracts contain multiple performance obligations to which the transaction price must be allocated. The objective when allocating the transaction price is to allocate the transaction price to each performance obligation (or distinct good or service) in an amount that depicts the consideration to which the entity expects to be entitled in exchange for transferring the promised goods or services to the customer. All of the individual performance obligations, including equipment, consumables and services are sold separately, and therefore, observable prices are available.
Based on review of customer contracts within our Other Vaccines, Pharmaceuticals, and Products segment, Heska has determined that the timing of revenue recognition of our customer contracts will continue to be recognized as it is currently - generally upon shipment or acceptance by our customer. Heska assessed the over-time criteria within ASC 606 and concluded that because products within this segment have no alternative use to Heska as Heska is contractually prohibited to redirect the product to other customers, Heska does not have right to payment for performance to date and therefore, point in time recognition is appropriate.
In addition, ASC 606 states that "an asset recognized in accordance with the incremental costs of obtaining a contract shall be amortized on a systematic basis that is consistent with the transfer to the customer of the goods or services to which the asset relates". Because a significant number of Heska’s customers are under noncancelable contracts for periods extending beyond one year with the delivery of goods and services occurring throughout the duration, Heska anticipates recording an asset related to the prepayment of such contract acquisition costs.
We expect the impact of the adoption of the new standard will result in an adjustment to the following recognition of software support revenue, which historically has been a separate element however this has been deemed to be an immaterial promise and therefore, previously deferred revenue relating to software support will be recognized at point of sale along with the equipment and embedded software. The adoption of the new standard will also impact the recognition of sales commissions. Previously, sales commissions were expensed
when the underlying contract was executed, which will now be recognized as a cost to acquire a contract and amortized over its useful life. Finally, the new standard will impact the recognition of revenue associated with certain bill and hold arrangements. Previously, we deferred revenue recognition until shipment, which will now be recognized upon customer acceptance. We are finalizing the quantitative impact of these changes.
Allowance for Doubtful Accounts
We maintain an allowance for doubtful accounts receivable based on client-specific allowances,unit as well as a general allowance. Specific allowancesindustry and macroeconomic factors that are maintained for clients which are determinedreasonably likely to have a high degreematerial impact on the fair value of collectability risk based on such factors, among others, as: (i) the aging of the accounts receivable balance; (ii) the client's past payment history; and (iii) a deterioration in the client's financial condition, evidenced by weak financial condition and/or continued poor operating results, reduced credit ratings, and/or a bankruptcy filing. In addition to the specific allowance, the Company maintains a general allowance for credit risk in its accounts receivable which is not covered by a specific allowance. The general allowance is established based on such factors, among others, as: (i) the total balance of the outstanding accounts receivable, including considerations of the aging categories of those accounts receivable; (ii) past history of uncollectable accounts receivable write-offs; and (iii) the overall creditworthiness of the client base. A considerable amount of judgment is required in assessing the realizability of accounts receivable. Should anyreporting unit. Examples of the factors considered in determiningassessing the adequacyfair value of a reporting unit include: the results of the overall allowance change, an adjustmentmost recent impairment test, the competitive environment, the regulatory environment, anticipated changes in product or labor costs, revenue growth trends, the consistency of operating margins and cash flows and current and long-range financial forecasts. The long-range financial forecasts of the reporting units, which are based upon management’s long-term view of our markets, are used by senior management and the Board of Directors to evaluate operating performance.
In the fourth quarter we elected to bypass the qualitative approach and instead proceeded directly to assessing the fair value of all of our reporting units and comparing the fair value of each reporting unit to the provision for doubtful accounts receivablecarrying value to determine if any impairment exists. We estimate the fair values of the reporting units using an income approach based on discounted forecasted cash flows. The income approach involves making significant assumptions about the extent and timing of future cash flows, revenue growth rates, which incorporate the continued growth of some of the existing products as well as success rates of newly launched or future launches of products, and discount rates. Model assumptions are based on our projections and best estimates, using appropriate and customary market participant assumptions. Changes in forecasted cash flows or the discount rate would affect the estimated fair values of our reporting units and could result in a goodwill impairment loss in a future period. We also utilize a market approach utilizing the guideline public company method or guideline transaction method, or both, which incorporate subjectivity of management in determining appropriate comparable companies and transactions. Finally, the weighting of each approach is highly subjective and could result in an impairment in a future period. No impairment existed based on the analysis. We performed qualitative assessments in the fourth quarters of 2021 and 2020 and determined that no indications of impairment existed.
We assess the realizability of intangible assets other than goodwill whenever events or changes in circumstances indicate that the carrying value may not be necessary.
Inventories
Inventoriesrecoverable. If an impairment review is triggered, we evaluate the carrying value of intangible assets based on estimated undiscounted future cash flows over the remaining useful life of the primary asset of the asset group and compare that value to the carrying value of the asset group. The cash flows that are statedused contain our best estimates, using appropriate and customary assumptions and projections at the lower of cost ortime. If the net realizable value, cost being determined on the first-in, first-out method. Inventories are written down if the estimated net realizablecarrying value of an inventory item is less thanintangible asset exceeds the related estimated undiscounted future cash flows, an impairment to adjust the intangible asset to its recorded value.fair value would be reported as a non-cash charge to earnings. If necessary, we would calculate the fair value of an intangible asset using the present value of the estimated future cash flows to be generated by the intangible asset, and applying a risk-adjusted discount rate. We review the carrying costhad a $0.2 million impairment of our inventories by product each quarter to determineintangible assets during the adequacyyear ended December 31, 2022. We had no impairments of our reservesintangible assets during the years ended December 31, 2021, and 2020.
These valuations require the use of management’s assumptions, which would not reflect unanticipated events and circumstances that may occur.
Share-Based Compensation Expense
We utilize share-based compensation arrangements as part of our long-term incentive plan. Our share-based compensation programs provide for excess and/or obsolete inventory. In accounting for inventoriesgrants of many types of awards, but we must make estimates regardingcurrently grant stock options, including performance stock options, restricted stock awards, and restricted stock units, along with the estimated net realizableissuance of employee stock purchase rights. The total fair value of future awards may vary significantly from past awards based on a number of factors, including our inventory. This estimateshare-based award practices. Therefore, share-based compensation expense is based, in part, on our forecasts of future sales and shelf life of products.likely to fluctuate, possibly significantly, from year to year.
Deferred Tax Assets – Valuation Allowance
We evaluate our ability to realize the tax benefits associated with a deferred tax asset (“DTA”) by analyzing our forecasted taxable income using both historical and projected future operating results, the reversal of existing temporary differences, taxable income in prior carry back years (if permitted) and the availability of tax planning strategies. A valuation allowance is required to be established unless management determines that it is more likely than not that we will ultimately realize the tax benefit associated with a deferred tax asset. As of December 31, 2016, a portionThe majority of our deferred tax assets, specifically our domestic federalcurrently issued restricted stock awards, restricted stock units, and state net operating loss carryforwards ("NOL"), were reduced byperformance stock options are tied to Company and market-related performance metrics and generally include a valuation allowance. Astime vesting component. We also grant stock options and restricted stock awards tied to time vesting to employees and directors. All significant inputs into the determination of December 31, 2017, due toexpense as well as the significant amount of additional stock-based compensation excess tax deductions generated, the Company determined that sufficient taxable income may not be generated to realize all of the DTAs as of December 31, 2017. As such, an additional valuation allowance of $2.9 million was recorded for the year against certain of the Company’s deferred tax assets. Seerelated expense are discussed further in Note 312 - Income Taxes in the accompanying notesCapital Stock to the consolidated financial statements for additional information regarding our income taxes.included in Part II. Item 8 of this Annual Report on Form 10-K.
Performance-Based Stock Compensation Awards
We grant restricted stock awards, restricted stock units, and performance stock options subject to performance vesting criteria, in addition to service, to our executive officers and other key employees. This type of grant consists of the right to receive shares of, or options to purchase, common stock, subject to achievement of time-based criteria and certain Company or market performance-related goals over a specified period, as established by the Compensation Committee of our Board of Directors. We recognize any related share-based compensation expense ratably over the requisite service period based on the probability assessment on the outcome of the performance condition related to company performance metrics. The fair value used in our expense recognition method is measured based on the number of shares granted and the closing market price of our common stock on the date of grant for restricted stock awards and units and the Black-Scholes model for performance stock options. The amount of share-based compensation expense recognized in any one period can vary based on the attainment or expected attainment of the performance goals. If such performance goals are not ultimately met, no compensation expense is recognized and any previously recognized compensation expense is reversed. We recognize any related share-based compensation expense ratably over the service period based on the most probable outcome of the performance condition related to market performance metrics. For awards related to market performance, the fair value used in our expense recognition method is measured based on the number of shares granted, and a Monte Carlo simulation model, which incorporates the probability of the achievement of the market-related performance goals as part of the grant date fair value. If such performance goals are not ultimately met, the expense is not reversed.
Recent Accounting Pronouncements
From time to time, the FASB or other standard setting bodies issue new accounting pronouncements. Updates to the FASB ASC are communicated through issuance of an ASU. Unless otherwise discussed, we believe that recently issued guidance, whether adopted or to be adopted in the future, is not expected to have a material impact on our Consolidated Financial Statements upon adoption.
To understand the impact of recently issued guidance, whether adopted or to be adopted, please review the information provided in Note 1 - Operations and Summary of Significant Accounting Policies to the consolidated financial statements included in Part II. Item 8 of this Annual Report on Form 10-K.
Results of Operations
Our analysis presented below is organized to provide the information we believe will facilitate an understanding of our historical performance and relevant trends going forward. Our 2016 results of operations include the results of International Imaging for the period of June 1, 2016 through December 31, 2016. Our 2017 results included a full year of International Imaging operations. This discussion should be read in conjunction with our consolidated financial statements, including the notes thereto, in Part II. Item 8 of this annual reportAnnual Report on Form 10-K.10-K.
The following table sets forth, for the periods indicated, certain data derived from our consolidated statementsConsolidated Statements of incomeLoss (in thousands):
| | | | | | | | | | | |
| Year Ended December 31, |
| 2022 | | 2021 |
| Revenue, net | $ | 257,307 | | | $ | 253,739 | |
| Gross profit | 111,167 | | | 105,794 | |
| Operating expenses | 131,465 | | | 106,787 | |
| Operating loss | (20,298) | | | (993) | |
| Interest and other expense, net | 1,536 | | | 2,448 | |
| Loss before income taxes and equity in losses of unconsolidated affiliates | (21,834) | | | (3,441) | |
| Income tax benefit | (3,410) | | | (3,573) | |
| Net (loss) income before equity in losses of unconsolidated affiliates | (18,424) | | | 132 | |
| Equity in losses of unconsolidated affiliates | (1,465) | | | (1,280) | |
| Net loss attributable to Heska Corporation | $ | (19,889) | | | $ | (1,148) | |
| | | |
Diluted loss per share attributable to Heska Corporation(1) | $ | (1.92) | | | $ | (0.11) | |
Non-GAAP net income per diluted share (1)(2) | $ | 1.58 | | | $ | 1.61 | |
| | | |
Adjusted EBITDA (2) | $ | 27,203 | | | $ | 29,739 | |
Net margin (2) | (7.2) | % | | 0.1 | % |
Adjusted EBITDA margin (2) | 10.6 | % | | 11.7 | % |
|
| | | | | | | | | | | |
| | Year Ended December 31, |
| | 2017 | | 2016 | | 2015 |
| Revenue | $ | 129,341 |
| | $ | 130,083 |
| | $ | 104,597 |
|
| Gross Profit | 58,261 |
| | 53,892 |
| | 44,213 |
|
| Operating expenses | 40,042 |
| | 37,359 |
| | 35,656 |
|
| Operating income | 18,219 |
| | 16,533 |
| | 8,557 |
|
| Interest and other (income) expense, net | (150 | ) | | 29 |
| | 130 |
|
| Income before income taxes | 18,369 |
| | 16,504 |
| | 8,427 |
|
| Provision for income taxes | 8,913 |
| | 4,339 |
| | 2,908 |
|
| Net income | 9,456 |
| | 12,165 |
| | 5,519 |
|
| Net (loss) income attributable to non-controlling interest | (497 | ) | | 1,657 |
| | 280 |
|
| Net income attributable to Heska Corporation | $ | 9,953 |
| | $ | 10,508 |
| | $ | 5,239 |
|
The following table sets forth,(1) Shares used in the diluted per share calculation for diluted loss per share attributable to Heska Corporation are (in thousands) 10,343 for the periods indicated, segment data derived from our consolidated statements ofyear ended December 31, 2022 and 10,015 for the year ended December 31, 2021. Shares used in the diluted per share calculation for non-GAAP net income per diluted share are (in thousands): 10,523 for the year ended December 31, 2022 compared to 10,407 for the year ended December 31, 2021.
(2) See “Non-GAAP Financial Measures” for a reconciliation of Adjusted EBITDA to net income, Non-GAAP net income per diluted share to Diluted loss per share attributable to Heska Corporation, and Adjusted EBITDA margin to Net margin, the closest comparable GAAP measures, for each of the periods presented.
|
| | | | | | | | | | | | | | | | | | | | | | |
| | Year Ended December 31, | | Change |
| | 2017 | | 2016 | | 2015 | | Dollar Change | % Change | Dollar Change | % Change |
| Revenue | $ | 105,191 |
| | $ | 107,398 |
| | $ | 84,249 |
| | $ | (2,207 | ) | (2 | )% | $ | 23,149 |
| 27 | % |
| Percent of Total Revenue | 81.3 | % | | 82.6 | % | | 80.5 | % | | | | | |
| Cost of Revenue | 54,509 |
| | 59,066 |
| | 45,652 |
| | (4,557 | ) | (8 | )% | 13,414 |
| 29 | % |
| Gross Profit | 50,682 |
| | 48,332 |
| | 38,597 |
| | 2,350 |
| 5 | % | 9,735 |
| 25 | % |
| Operating Income | $ | 12,656 |
| | $ | 13,015 |
| | $ | 4,911 |
| | $ | (359 | ) | (3 | )% | $ | 8,104 |
| 165 | % |
|
| | | | | | | | | | | | | | | | | | | | | | |
| | Year Ended December 31, | | Change |
| | 2017 | | 2016 | | 2015 | | Dollar Change | % Change | Dollar Change | % Change |
| Revenue | $ | 24,150 |
| | $ | 22,685 |
| | $ | 20,348 |
| | $ | 1,465 |
| 6 | % | $ | 2,337 |
| 11 | % |
| Percent of Total Revenue | 18.7 | % | | 17.4 | % | | 19.5 | % | | | | | |
| Cost of Revenue | 16,570 |
| | 17,125 |
| | 14,733 |
| | (555 | ) | (3 | )% | 2,392 |
| 16 | % |
| Gross Profit | 7,580 |
| | 5,560 |
| | 5,615 |
| | 2,020 |
| 36 | % | (55 | ) | (1 | )% |
| Operating Income | $ | 5,563 |
| | $ | 3,518 |
| | $ | 3,646 |
| | $ | 2,045 |
| 58 | % | $ | 1,601 |
| 44 | % |
Revenue
Total revenue decreased 1%increased 1.4% to $129.3$257.3 million in 20172022 compared to $130.1$253.7 million in 2016. Total2021. The increase in revenue increased 24% to $130.1 million in 2016 compared to $104.6 million in 2015.
CCA segment revenue decreased 2% to $105.2 million in 2017 compared to $107.4 million in 2016. The decrease wasis driven primarily by a 26% decreasethe acquisition of VetZ, which was completed on January 3, 2022, and which contributed $12.2 million for the year ended December 31, 2022 that was not included in revenue fromthe prior year period. Revenue growth was also driven by the global launch of Element AIM, increased capital lease placements globally and higher consumable sales of our imaging products,mainly due to increased selling prices, particularly in North America. These were partially offset by a 12% increase11.7% decline in revenue from core point of care laboratory subscriptions, equipment and consumables. CCA segment revenue increased 27%PVD due to $107.4 million in 2016 compared to $84.2 million in 2015. The increase was driven primarily by greater sales of our digital imaging products, increased sales of ourdecreased demand for the heartworm preventive, products and increased installed base and revenue recognition of our instruments and sales of their associated consumables. These increases were partially offset by declines in sales of our heartworm diagnostic tests and allergy testing and treatments.
OVP segment revenue increased 6% to $24.2Tri-Heart, as well as a $10.2 million in 2017 compared to $22.7 million in 2016 and increased 11% to $22.7 million in 2016 compared to $20.3 million in 2015. The increase in 2017 from 2016 wasforeign exchange impact, primarily due to various customer contracts. The increase in 2016 from 2015 was driven primarily by greater revenue from our contract with Elanco.the weakening of the Euro, impacting the POC product lines.
Gross Profit
Gross profit increased 8%5.1% to $58.3$111.2 million in 20172022 compared to $53.9$105.8 million in 2016.2021. Gross margin percent which we derive by dividing gross profit by total revenue, increasedexpanded to 45.0%43.2% in 20172022 compared to 41.4%41.7% in 2016.2021. The increase in both gross profit was driven primarily by favorable pricing, while the increase inand gross margin percentage wasis driven in part by favorable margins onhigher sales of consumables inrelative to total sales, which are our CCAhighest margin products, further strengthened by product rationalization and transition effort within our International segment and product mix in our OVP segment. Grossoverall annual price increases. The acquisition of VetZ also favorably impacted gross profit increased 22% to $53.9 million in 2016 compared to $44.2 million in 2015. Gross margin percent decreased to 41.4% in 2016 compared to 42.3% in 2015. This lowerand gross margin percentage was driven primarily by unfavorable product mix in our OVP segment as well as incremental sales from International Imaging, which contributes slightly lower gross margins than our domestic imaging products.margin.
Operating Expenses
Selling and marketing expenses increased 5%5.2% to $23.2$47.7 million in 20172022 compared to $22.1$45.3 million in 2016.2021. The increase wasis driven primarily by a $1.0the acquisition of VetZ of $3.2 million, increase inincreased travel and trade show expenses due to relaxing COVID-19 restrictions, higher employee compensation costs, and benefits and a $0.3 million increase in stock compensation,higher non-recurring costs, partially offset by a $0.6lower stock-based compensation of $2.2 million decrease in commissions and other incentive compensation. Selling and marketing expenses increased 4% to $22.1 million in 2016 compared to $21.3 million in 2015. The increase was driven primarily by commissions paid on higher sales levels, particularly on our digital radiography sales and instrument placements.favorable foreign exchange impacts.
Research and development expenses decreased 7%increased to $2.0$19.8 million in 2017, compared to $2.12022 from $7.0 million in 2016, primarily driven by a decrease in other incentive compensation. Research and development increased 29% to $2.1 million in 2016, as compared to $1.7 million in 2015.2021. The increase was driven primarily by spending on product developmentis primarily related to a $10.0 million payment for digital radiography solutions.an exclusive global supply and licensing agreement to develop and commercialize the Heska Nu.Q® vet cancer screening test, a POC cancer monitoring and screening test. The remaining increase is due to investment in new products and technologies acquired over the prior 18 months.
General and administrative expenses increased 13%17.5% to $14.8$64.1 million in 2017,2022, compared to $13.1$54.5 million in 2016.2021. The increase wasis driven primarily by the $3.9 million provision for credit losses on a $0.7convertible note receivable, increased costs related to recent acquisitions and higher non-recurring items of $6.1 million, increase in general consulting services, $0.6 million increase inand increased cash and stock-based compensation costs, partially offset by lower incentive compensation and benefits (net of a decrease in other incentive compensation), and a $0.2 million increase in severance expense. General and administrative expenses increased 4% to $13.1 million in 2016, as compared to $12.7 million in 2015. The increase was driven primarily by intangible amortization expense related to our acquisition of International Imaging.favorable foreign exchange impacts.
Interest and Other Expense, (Income), Net
Interest and other expense, (income), net, was income of $150 thousand$1.5 million in 2017, as2022, compared to an expense of $29 thousand$2.4 million in 2016 and expense of $130 thousand in 2015.
2021. The increase in other income in 2017decrease was primarily driven by interest income earned in 2022 related to our investment in a $293 thousand increasemoney market fund that was not earned in net foreign currency gains offset by a $85 thousand increase in interest expense. The decrease in other expense in 2016 as compared to 2015 was driven primarily by income received from the sale of an equity investment during the first quarter of 2016. This income was offset by minimum interest payments made on our line of credit and greater foreign currency losses.2021.
Income Tax (Benefit) Expense
In 2017,2022, we had total income tax expensebenefit of $8.91$3.4 million including approximately $5.9 million relatedcompared to the re-measurement of our deferred tax balances as a result of the US Tax Cuts and Jobs Act. In 2016 and 2015 respectively, we had total income tax expensebenefit in 2021 of $4.3 million and $2.9$3.6 million. In 2017, our deferred income tax expense was increased by $5.9 million (i.e. the write down of deferred tax asset balances and the valuation allowance) for tax reform legislation and our current income tax expense was reduced by $5.5 million for employee share-based payment awards which are now recorded in the income statement in accordance with our accounting policy election. See Note 35 - Income Taxes in the accompanying notes to the consolidated financial statements included in Part II. Item 8 of this Annual Report on Form 10-K for additional information regarding our income taxes.
On December 22, 2017, the tax legislation commonly known as The US Tax Cuts and Jobs Act was signed into law (the “Act”). This enactment resulted in a number of significant changes to US federal income tax law for US corporations. Most notably, the statutory US federal corporate income tax rate was reduced to 21%. In addition to the change in the corporate income tax rate, the Act further introduced a number of other changes including a one-time transition tax via a mandatory deemed repatriation of post-1986 undistributed foreign earnings and profits; the introduction of a tax on global intangible low-taxed income (“GILTI”) for tax years beginning after December 31, 2017; the further limitation of the deductibility of share-based compensation of certain highly compensated employees; and the repeal of the corporate alternative minimum tax; amongst other provisions. We are required to recognize the effect of the tax law changes in the period of enactment. Shortly after enactment, the Security and Exchange Commission (SEC) issued SAB 118, which provides guidance on accounting for the new legislation. Under SAB 118, an entity should recognize amounts for which accounting can be completed. Where accounting under ASC 740 is incomplete relative to certain income tax effects of tax reform, the entity should recognize provisional amounts and adjust such amounts as more information becomes available and disclose this information in its financial statements. The measurement period under SAB 118 is one year from date of enactment (with the approach being similar to business combinations). Due to the timing of enactment of the Act, and the ongoing guidance and accounting interpretation expected over the next 12 months, we consider the accounting for the transition tax, impact of
GILTI, deferred tax re-measurements, and other impacts of the Act applicable to the Company to be incomplete as of the balance sheet date. We expect to complete our analysis within the measurement period in accordance with SAB 118.
Net Income(Loss) Attributable to Heska Corporation
Net loss attributable to Heska Corporation
Net income attributable to Heska Corporation was $10.0 was $19.9 million in 2017, as2022, compared to a net incomeloss attributable to Heska Corporation of $10.5$1.1 million in 20162021 driven by the $10 million licensing payment, the $3.9 million provision for credit losses on the convertible note receivable, increased cash compensation costs as well as non-recurring and recurring costs associated with recent acquisitions, partially offset by increases in revenue and gross profit.
Adjusted EBITDA
Adjusted earnings before interest, taxes, depreciation, and amortization ("EBITDA") in 2022 was $27.2 million (10.6% adjusted EBITDA margin), compared to $29.7 million (11.7% adjusted EBITDA margin) in 2021. The decrease is driven by increased investments in growth and new technologies, such as the ongoing development of a cloud-based PIMS and the new trūRapid™ portfolio, and higher cash compensation costs, partially offset by increased revenue and gross profit.See “Non-GAAP Financial Measures” for a reconciliation of adjusted EBITDA to net income and adjusted EBITDA margin to net loss margin, the closest comparable GAAP measures, for each of the periods presented.
Earnings Per Share
Diluted loss per share attributable to Heska was $1.92 in 2022 compared to loss of $0.11 per diluted share in 2021. The increased loss is due to increased operating expenses, partially offset by higher revenue and gross profit, as discussed above.
Non-GAAP Earnings Per Share
Non-GAAP EPS was income of $1.58 per diluted share in 2022 compared to income of $1.61 per diluted share in 2021. The decrease is primarily due to increased operating expenses, excluding non-recurring and acquisition-related costs, partially offset by higher revenue and gross profit as discussed above. See “Non-GAAP Financial Measures" for a reconciliation of non-GAAP EPS to net (loss) income attributable to Heska Corporationper diluted share, the closest comparable U.S. GAAP measure, in each of $5.2 million in 2015. The difference between this line item and "Net Income" is the net income or loss attributable to our minority interest in US Imaging, prior to when we purchased it on May 31, 2017. The difference between these line items was a gain of $0.5 million in 2017, a loss of $1.7 million in 2016 and a loss of $0.3 million in 2015.periods presented.
Non-GAAP Financial Measures
As discussed above,
In addition to financial measures presented on the basis of accounting principles generally accepted in the U.S. (“U.S. GAAP”), we also present EBITDA, adjusted EBITDA, adjusted EBITDA margin, and non-GAAP net income (loss) per diluted share, which are non-GAAP measures.
These measures should be viewed as a supplement to, not substitute for, our results of operations presented under Income Taxes,U.S. GAAP. The non-GAAP financial measures presented may not be comparable to similarly titled measures of other companies because they may not calculate their measures in the caption,same manner. Management uses EBITDA, adjusted EBITDA, adjusted EBITDA margin and non-GAAP net income (loss) per diluted share as key profitability measures, which are included in our deferred income tax expense was increased by $5.9 million due to the revaluationquarterly analyses of our deferred tax assetsoperating results to our senior management team, our annual budget and related goal setting and other performance measurements. We believe these non-GAAP measures enhance our investors' understanding of our business performance and that not adjusting for the items included in the reconciliations below would hinder comparison of the performance of our businesses on a period-over-period basis or with other businesses.
The following tables reconcile our most directly comparable as-reported financial measures calculated in accordance with GAAP to our non-GAAP financial measures (in thousands, except percentages and per share amounts): | | | | | | | | | | | | | | |
| | | Year Ended
December 31, |
| | | 2022 | | 2021 |
Net (loss) income (1) | | $ | (18,424) | | | $ | 132 | |
| Income tax (benefit) | | (3,410) | | | (3,573) | |
| Interest expense, net | | 613 | | | 2,404 | |
| Depreciation and amortization | | 13,966 | | | 13,555 | |
| EBITDA | | $ | (7,255) | | | $ | 12,518 | |
| | | | |
Acquisition-related and other non-recurring/extraordinary costs (2) | | $ | 19,919 | | | $ | 238 | |
| Stock-based compensation | | 16,004 | | | 18,263 | |
| Equity in losses of unconsolidated affiliates | | (1,465) | | | (1,280) | |
| Adjusted EBITDA | | $ | 27,203 | | | $ | 29,739 | |
Net margin (3) | | (7.2) | % | | 0.1 | % |
Adjusted EBITDA margin (3) | | 10.6 | % | | 11.7 | % |
(1) Net (loss) income used for reconciliation represents the "Net income (loss) before equity in losses of unconsolidated affiliates."
(2) To exclude the effect of acquisition related costs, non-recurring items and extraordinary charges not indicative of ongoing operations of $19.9 million for the year ended December 31, 2022 compared to $0.2 million for the year ended December 31, 2021. These costs were incurred as a result of a $10.0 million licensing payment, the Act. On$3.9 million provision for credit losses for a non-GAAP basis, excludingconvertible note receivable, the one-time tax$1.0 million mark-to-market adjustment of the fair value of the embedded derivative on the convertible note receivable, $2.2 million related to the acquisitions of LightDeck and VetZ as well as other acquisition related and non-recurring charges, partially offset by a reduction in contingent consideration of $1.3 million for the year ended December 31, 2022.
(3) Net margin and adjusted EBITDA margin are calculated as the ratio of net (loss) income attributableand adjusted EBITDA, respectively, to Heska was $15.9revenue.
| | | | | | | | | | | | | | |
| | | Year Ended
December 31, |
| | | 2022 | | 2021 |
| GAAP net loss attributable to Heska per diluted share | | $ | (1.92) | | | $ | (0.11) | |
Acquisition related and other non-recurring/extraordinary costs(1) | | 1.89 | | | 0.02 | |
Amortization of acquired intangibles(2) | | 0.81 | | | 0.60 | |
Purchase accounting adjustments related to inventory and fixed asset step-up(3) | | 0.22 | | | 0.03 | |
| Amortization of debt discount and issuance costs | | — | | | 0.01 | |
| Stock-based compensation | | 1.52 | | | 1.75 | |
| Loss on equity investee transactions | | 0.14 | | | 0.12 | |
Estimated income tax effect of non-GAAP adjustments(4) | | (1.08) | | | (0.81) | |
| Non-GAAP net income per diluted share | | $ | 1.58 | | | $ | 1.61 | |
| | | | |
| Shares used in diluted per share calculations | | 10,523 | | | 10,407 | |
(1) To exclude the effect of acquisition related costs, non-recurring items and extraordinary charges not indicative of ongoing operations of $19.9 million for the year ended December 31, 2022 compared to $0.2 million for the year ended December 31, 2021. These costs were incurred as a result of a $10.0 million licensing payment, the $3.9 million provision for credit losses for a convertible note receivable, the $1.0 million mark-to-market adjustment of the fair value of the embedded derivative on the convertible note receivable, $2.2 million related to the acquisitions of LightDeck and VetZ as well as other acquisition related and non-recurring charges, partially offset by a reduction in contingent consideration of $1.3 million for the year ended December 31, 2022.
(2) To exclude the effect of amortization of acquired intangibles of $8.6 million in 2017, asthe year ended December 31, 2022, compared to $10.5$6.3 million in 2016. the year ended December 31, 2021. These costs were incurred as part of the purchase accounting adjustments for recent acquisitions.
(3) To exclude the effect of purchase accounting adjustments for inventory step up amortization and depreciation related to the step-up of fixed assets of $2.3 million for the year ended December 31, 2022, compared to $0.3 million for the year ended December 31, 2021.
(4) Represents income tax expense utilizing an estimated effective tax rate that adjusts for non-GAAP measures including: acquisition related, non-recurring and extraordinary costs (excluding charges which are not deductible for tax of $0.3 million for the year ended December 31, 2022 compared to benefits of $1.0 million for the year ended December 31, 2021), amortization of acquired intangibles, purchase accounting adjustments, amortization of debt discount and issuance costs, and stock-based compensation. This incorporates the tax expense related to stock-based compensation of $0.6 million for the year ended December 31, 2022 compared to $1.6 million benefit for the year ended December 31, 2021. Adjusted effective tax rates are approximately 25% for the years ended December 31, 2022 and December 31, 2021.
Analysis by Segment
The North America segment includes sales and costs from the United States, Canada and Mexico. The International segment includes sales and costs from Australia, France, Germany, Italy, Malaysia, Spain and Switzerland.
The North America segment represented 62.9% of our revenue and the International segment represented 37.1% of our revenue for the year ended December 31, 2022.
The following tablesections and tables set forth, for the periods indicated, certain data derived from our Consolidated Statements of (Loss) Income (in thousands).
North America Segment | | | | | | | | | | | | | | | | | | | | | | | |
| Year Ended December 31, | | Change |
| 2022 | | 2021 | | Dollar Change | | % Change |
| POC Laboratory: | $ | 95,480 | | | $ | 86,841 | | | $ | 8,639 | | | 9.9 | % |
| Instruments & Other | 17,178 | | | 14,837 | | | 2,341 | | | 15.8 | % |
| Consumables | 78,302 | | | 72,004 | | | 6,298 | | | 8.7 | % |
| POC Imaging & Informatics | 27,335 | | | 29,512 | | | (2,177) | | | (7.4) | % |
| PVD | 22,020 | | | 24,939 | | | (2,919) | | | (11.7) | % |
| OVP | 16,927 | | | 17,606 | | | (679) | | | (3.9) | % |
| Total North America revenue | $ | 161,762 | | | $ | 158,898 | | | $ | 2,864 | | | 1.8 | % |
| North America Gross Profit | $ | 75,528 | | | $ | 74,426 | | | $ | 1,102 | | | 1.5 | % |
| North America Gross Margin | 46.7 | % | | 46.8 | % | | | | |
| North America Operating (Loss) Income | $ | (15,797) | | | $ | 650 | | | $ | (16,447) | | | NM |
| North America Operating (Loss) Income Margin | (9.8) | % | | 0.4 | % | | | | |
North America segment revenue increased 1.8% to $161.8 million for the year ended December 31, 2022, compared to $158.9 million for the year ended December 31, 2021 driven by a 9.9% increase in POC laboratory instruments and consumables, in part as a result of continued rollout of Element AIM, as well as increased capital lease placements and favorable price on consumables due to annual price escalators. This is partially offset by an 11.7% decline in PVD due to lower demand for the heartworm preventive, Tri-Heart, and a reconciliation of7.4% decline in POC imaging & informatics.
Gross profit was $75.5 million compared to $74.4 million for the impact of this adjustmentyear ended December 31, 2022 and 2021, respectively. The increase in gross profit is primarily driven by increased revenue in the current year, specifically related to POC laboratory instruments and consumables. Gross margin was 46.7% for the nearest U.S. GAAP financial measure:year ended December 31, 2022, compared to 46.8% in the year ended December 31, 2021. The slight margin decline is driven by increased AIM instrument placements and unfavorable product mix, which offset consumable price increases.
|
| | | | | | |
| | Year Ended December 31, |
| | 2017 | 2016 |
| U.S. GAAP: Net (loss) income attributable to Heska | $ | 9,953 |
| $ | 10,508 |
|
| Add: U.S. Tax Reform | 5,898 |
| — |
|
| Non-GAAP: Net income attributable to Heska excluding U.S. Tax Reform | $ | 15,851 |
| $ | 10,508 |
|
| | | |
| U.S. GAAP: Diluted (loss) earnings per share attributable to Heska | $ | 1.30 |
| $ | 1.43 |
|
| Non-GAAP: Diluted earnings per share attributable to Heska | $ | 2.07 |
| $ | 1.43 |
|
| | | |
| Weighted average outstanding shares used to compute diluted earnings per share attributable to Heska Corporation | 7,642 |
| 7,361 |
|
Impact
International Segment
| | | | | | | | | | | | | | | | | | | | | | | |
| Year Ended December 31, | | Change |
| 2022 | | 2021 | | Dollar Change | | % Change |
| POC Laboratory: | $ | 56,865 | | | $ | 61,017 | | | $ | (4,152) | | | (6.8) | % |
| Instruments & Other | 15,660 | | | 15,001 | | | 659 | | | 4.4 | % |
| Consumables | 41,205 | | | 46,016 | | | (4,811) | | | (10.5) | % |
| POC Imaging & Informatics | 35,209 | | | 28,492 | | | 6,717 | | | 23.6 | % |
| PVD | 3,471 | | | 5,332 | | | (1,861) | | | (34.9) | % |
| Total International revenue | $ | 95,545 | | | $ | 94,841 | | | $ | 704 | | | 0.7 | % |
| International Gross Profit | $ | 35,639 | | | $ | 31,368 | | | $ | 4,271 | | | 13.6 | % |
| International Gross Margin | 37.3 | % | | 33.1 | % | | | | |
| International Operating Loss | $ | (4,501) | | | $ | (1,643) | | | $ | (2,858) | | | (174.0) | % |
| International Operating Loss Margin | (4.7) | % | | (1.7) | % | | | | |
International revenue was $95.5 million compared to $94.8 million for the year ended December 31, 2022 and 2021, respectively, driven by the acquisition of InflationVetZ, which delivered $12.2 million that was not present in the prior year period, and the introduction of Element AIM, partially offset by $9.6 million of negative foreign currency impact.
In recent years, inflation has not hadGross profit was $35.6 million compared to $31.4 million for the year ended December 31, 2022 and 2021, respectively. Gross margin for the International segment was 37.3% for the year ended December 31, 2022, compared to 33.1% for the year ended December 31, 2021. The increase in gross profit and gross margin for both periods is driven by increased revenue, excluding foreign exchange impacts, as well as favorable product mix, particularly within POC laboratory consumables. The acquisition of VetZ also favorably impacted gross margin while the introduction of Element AIM in the International segment unfavorably impacted gross margin.
International operating loss was $4.5 million for the year ended December 31, 2022 compared to a significant impact on our operations.loss of $1.6 million for the year ended December 31, 2021, driven primarily by increased operating expenses for the development of new PIMS technology, partially offset by increased revenue and gross profit.
Liquidity, Capital Resources and Financial Condition
We believe that adequate liquidity and cash generation is important to the execution of our strategic initiatives. Our ability to fund our operations, acquisitions, capital expenditures, and product development efforts may depend on our ability to access other forms of capital as well as our ability to generate cash from operating activities, which is subject to future operating performance, as well as general economic, financial, competitive, legislative, regulatory, and other conditions, some of which aremay be beyond our control.control, including but not limited to effects of the COVID-19 pandemic. Our primary sourcessource of liquidity areis our available cash cash generated from current operations and availability under our credit facilities noted below.
For the year ended December 31, 2017, we had net income of $9.5 million and net cash provided by operations of $10.4$156.6 million. At December 31, 2017, we had $9.7 million of cash and cash equivalents, working capital of $37.2 million and $6.0 million outstanding borrowings under our revolving line of credit, discussed below.
On July 27, 2017, we entered into a Credit Agreement (the "Credit Agreement") with JPMorgan Chase Bank, N.A. ("Chase"), which provides for a revolving credit facility of up to $30.0 million (the "Credit Facility"). The Credit Facility provides us with the ability to borrow up to $30.0 million, although the amount of the Credit Facility may be increased by an additional $20.0 million up to a total of $50.0 million subject to receipt of additional lender commitments and other conditions. Any interest on borrowings due is to be charged at either the (i) rate of interest per annum publicly announced from time to time by Chase at its prime rate in effect at its principal offices in New York City, subject to a floor, minus 1.65%, or (ii) the interest rate per annum equal to (a) LIBOR for the interest period in effect multiplied by (b) Chase's Statutory Reserve Rate (as defined in the Credit Agreement), plus 1.10% and payable monthly. There is an annual minimum interest charge of $60 thousand under the Credit Agreement. Borrowings under the Credit Facility are subject to certain financial and non-financial covenants and are available for various corporate purposes, including general working capital, capital investments, and certain permitted acquisitions. Failure to comply with any of the covenants, representations or warranties could result in our being in default on the loan and could cause all outstanding amounts payable to Chase to become immediately due and payable or impact our ability to borrow under the agreement. The Credit Agreement also permits us to issue letters of credit. The maturity date of the Credit Facility is July 27, 2020. The foregoing discussion of the Credit Facility is a summary only and is qualified in its entirety by reference to the full text of the Credit Agreement, a copy of which has been filed as an exhibit to the Company's Current Report on Form 8-K filed with the SEC on August 2, 2017. At December 31, 2017, we had $6.0 million of borrowings outstanding on this line of credit and we were in compliance with all financial covenants.
Concurrent with the Credit Agreement, we repaid all outstanding balances and closed our $15.0 million asset-based revolving line of credit with Wells Fargo, which had a maturity date of December 31, 2017. Our outstanding balance under this arrangement at December 31, 2016 was $0.7 million.
A summary of our cash provided by and used infrom operating, investing and financing activities is as follows (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | |
| December 31, | | Change |
| 2022 | | 2021 | | Dollar
Change | | %
Change |
| Net cash (used in) provided by operating activities | $ | (21,813) | | | $ | 6,247 | | | $ | (28,060) | | | NM |
| Net cash used in investing activities | (35,770) | | | (35,001) | | | (769) | | | (2.2) | % |
| Net cash (used in) provided by financing activities | (7,051) | | | 166,404 | | | (173,455) | | | NM |
| Foreign exchange effect on cash and cash equivalents | (2,322) | | | (410) | | | (1,912) | | | (466.3) | % |
| (Decrease) increase in cash and cash equivalents | (66,956) | | | 137,240 | | | (204,196) | | | NM |
| Cash and cash equivalents, beginning of the period | 223,574 | | | 86,334 | | | 137,240 | | | 159.0 | % |
| Cash and cash equivalents, end of the period | $ | 156,618 | | | $ | 223,574 | | | $ | (66,956) | | | (29.9) | % |
|
| | | | | | | | | | | |
| | Years Ended December 31, |
| | 2017 | | 2016 | | 2015 |
| Net cash provided by operating activities | $ | 10,409 |
| | $ | 5,855 |
| | $ | 2,125 |
|
| Net cash used in investing activities | (17,169 | ) | | (3,302 | ) | | (3,773 | ) |
| Net cash provided by financing activities | 5,551 |
| | 1,403 |
| | 2,726 |
|
| Effect of currency translation on cash | 74 |
| | (52 | ) | | (43 | ) |
| Increase (decrease) in cash and cash equivalents | (1,135 | ) | | 3,904 |
| | 1,035 |
|
| Cash and cash equivalents, beginning of the period | 10,794 |
| | 6,890 |
| | 5,855 |
|
| Cash and cash equivalents, end of the period | $ | 9,659 |
| | $ | 10,794 |
| | $ | 6,890 |
|
NetFor the year ended December 31, 2022 and the year ended December 31, 2021, cash flow used in operations was $21.8 million and cash flow provided by operating activitiesoperations was $10.4$6.2 million, in 2017 as compared to netrespectively, which was primarily the result of (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | |
| December 31, | | Change |
| 2022 | | 2021 | | Dollar
Change | | %
Change |
| Operating Activity: | $ | (19,889) | | | $ | (1,148) | | | $ | (18,741) | | | (1,632.5) | % |
| Non cash expenses and other adjustments | 33,528 | | | 30,842 | | | 2,686 | | | 8.7 | % |
| Change in accounts receivable | (1,494) | | | 2,193 | | | (3,687) | | | NM |
| Change in inventories, net | (13,981) | | | (14,905) | | | 924 | | | 6.2 | % |
| Change in lease receivables, net | (9,078) | | | (5,902) | | | (3,176) | | | (53.8) | % |
| Change in other assets | (1,887) | | | (4,329) | | | 2,442 | | | 56.4 | % |
| Change in accounts payable | 1,428 | | | 662 | | | 766 | | | 115.7 | % |
| Change in other liabilities | (10,440) | | | (1,166) | | | (9,274) | | | (795.4) | % |
| Net cash (used in) provided by operating activities | $ | (21,813) | | | $ | 6,247 | | | $ | (28,060) | | | NM |
For the year ended December 31, 2022 and the year ended December 31, 2021, cash provided by operating activities of $5.9 million in 2016, an increase of approximately $4.6 million. The change was driven primarily by a $9.9 million increase in cash provided by accounts receivable, a $4.9 million increase in deferred tax expense, a $3.8 million increase in cash provided by accounts payable, a $1.0 million decrease in cash used for other non-current assets, a $0.9 million decrease in cash used by deferred revenue, and a $0.5 million increase in stock-based compensation. These factors were partially offset by a $9.1 million increase in cash used for inventory, a $2.7 million decrease in net income, a $1.4 million increase in cash used for other current assets, a $1.1 million decrease in cash provided by related party payables, a $0.9 million increase in cash used for accrued liabilities, and a $1.4 million increase in current and non-current lease receivables. Net cash provided by operating activities was $5.9 million in 2016 as compared to net cash provided by operating
activities of $2.1 million in 2015, an increase of approximately $3.7 million. The change was driven primarily by a $6.6 million increase in net income, a $2.6 million increase in the use of our deferred tax asset, a $2.5 million decrease in cash used for inventory, some of which related to inventory transferred to property, plant and equipment as rental units, a $1.9 million increase in cash provided by other current assets, a $1.4 million increase in cash provided by related party payables, and a $0.5 million increase in depreciation and amortization. These factors were partially offset a $3.7 million increase in cash used for accounts payable, a $2.9 million increase in cash used for non-current lease receivables, a $2.1 million increase in cash used by deferred revenue, a $0.9 million decrease in cash provided by related party receivables, and a $0.6 million increase in cash used for current lease receivables.
Net cashflow used in investing activities was $17.2$35.8 million in 2017 as compared to netand $35.0 million, respectively, which was primarily used for (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | |
| December 31, | | Change |
| 2022 | | 2021 | | Dollar
Change | | %
Change |
| Acquisition of Biotech | $ | — | | | $ | (16,250) | | | $ | 16,250 | | | NM |
| Acquisition of BiEssA, net of cash acquired | — | | | (4,513) | | | 4,513 | | | NM |
| Acquisition of Lacuna, net of cash acquired | — | | | (3,882) | | | 3,882 | | | NM |
| Acquisition of VetZ, net of cash acquired | (28,956) | | | — | | | (28,956) | | | NM |
| Promissory note receivable issuance | (4,700) | | | (9,000) | | | 4,300 | | | 47.8 | % |
| Purchases of property and equipment | (2,114) | | | (1,768) | | | (346) | | | (19.6) | % |
| Proceeds from disposition of property and equipment | — | | | 412 | | | (412) | | | NM |
| Net cash used in investing activities | $ | (35,770) | | | $ | (35,001) | | | $ | (769) | | | (2.2) | % |
For the year ended December 31, 2022 and the year ended December 31, 2021, cash flow used in investing activities of $3.3 million in 2016, an increase of approximately $13.9 million. The increase was driven primarily by our purchase of the minority interest in US Imaging for $13.8 million. Net cash used in investingfinancing activities was $3.3$7.1 million in 2016 as compared to netand cash used in investing activities of $3.8 million in 2015, a decrease of approximately $0.5 million. The change was driven primarily by a $0.4 million decrease in purchases of property and equipment and $0.1 million of proceeds from the sale of an equity investment.
Net cashflows provided by financing activities was
$5.6$166.4 million,
in 2017 as compared to net cash provided by financing activitiesrespectively, which was the result of
$1.4 million in 2016, an increase of approximately $4.1 million. The change was driven primarily by a $4.8 million increase in borrowings, net of repayments, partially offset by $1.0 million of distributions to non-controlling interest members. Net cash provided by financing activities was $1.4 million in 2016 as compared to net cash provided by financing activities of $2.7 million in 2015, a decrease of approximately $1.3 million. The change was driven primarily by a $1.5 million change related to the accounting for additional tax benefits for employee share-based payment awards, which in 2016 were recorded as income tax benefit in earnings as compared to 2015, when they were carried on the balance sheet and classified as part of cash provided by financing activities.(in thousands): | | | | | | | | | | | | | | | | | | | | | | | |
| December 31, | | Change |
| 2022 | | 2021 | | Dollar
Change | | %
Change |
| Proceeds from issuance of common stock | $ | 3,191 | | | $ | 169,230 | | | $ | (166,039) | | | (98.1) | % |
| Purchase of shares withheld for tax obligations | (5,269) | | | (1,629) | | | (3,640) | | | (223.4) | % |
| Payment of stock issuance costs | — | | | (314) | | | 314 | | | NM |
| Notes Payable | (4,770) | | | — | | | (4,770) | | | NM |
| Proceeds from line of credit borrowings | — | | | 7 | | | (7) | | | NM |
| Repayments of line of credit borrowings | (203) | | | (890) | | | 687 | | | 77.2 | % |
| Net cash provided by financing activities | $ | (7,051) | | | $ | 166,404 | | | $ | (173,455) | | | NM |
| | | | | | | |
Our financial plan for 2018 indicatesWe believe that our available cash, and cash equivalents together withand marketable securities balances, as well as the cash fromflows generated by our operations, and borrowings expected to be available under our revolving line of credit, will be sufficient to fundsatisfy our operationsanticipated cash needs for working capital and capital expenditures, including selling and marketing team expansion, investment in key corporate functions, product development initiatives, and the foreseeable future. Additionally,build out of our new leased office space in Loveland, Colorado (see Part I. Item 2. Properties), for at least the next 12 months. Our belief may prove to be incorrect, however, and we would consider additional acquisitions ifcould utilize our available financial resources sooner than we felt they werecurrently expect. For example, we actively seek opportunities that are consistent with our strategic direction. However, our actual resultsdirection, which may differrequire additional capital. Our future capital requirements and the adequacy of available funds will depend on many factors, including those set forth in Part I. Item 1A, "Risk Factors". We may seek additional equity or debt financing in order to meet these future capital requirements, even in the absence of any acquisitions. In the event that additional financing is required from this plan, andoutside sources, we may not be requiredable to consider alternative strategies. We may be requiredraise it on terms acceptable to us, or at all. If we are unable to raise additional capital in the future. If necessary, we expect to raise these additional funds through the increased salewhen desired, our business, results of customer leases, the sale of equity securities or the issuance of new term debt. There is no guarantee that additional capital willoperations and financial condition would be available from these sources on acceptable terms, if at all, and certain of these sources may require approval by existing lenders. See "Risk Factors" in Item 1A of this Form 10-K for a discussion of some of the factors that affect our capital raising alternatives.adversely affected.
Effect of currency translation on cash
Net effect of foreign currency translations on cash changed $126 thousand$1.9 million to a $74 thousand positive$2.3 million negative impact in 2017 as2022, compared to a $52 thousand$0.4 million negative impact in 2016.2021. The net effect of foreign currency translation on cash changed $9 thousand to$1.2 million in 2021 from a $52 thousand negative$0.8 million positive impact in 2016 from a $43 thousand negative impact in 2015. These2020. These effects are related to changes in exchange rates between the USU.S. Dollar and the Swiss Franc, Euro, Canadian Dollar, Australian Dollar, and Malaysian Ringgit which isare the functional currencycurrencies of our Swiss subsidiary.subsidiaries.
Off Balance Sheet Arrangements
We have no off balance sheet arrangements or variable interest entities.
Contractual ObligationsMaterial Cash Requirements
The Company has not entered into any transactions with unconsolidated entities whereby the Company has financial guarantees, subordinated retained interests, derivative instruments, or other contingent arrangements that expose the Company to material continuing risks, contingent liabilities, or any other obligation under a variable interest in an unconsolidated entity that provided financing, liquidity, market risk or credit risk support to the Company, or engages in leasing, hedging or R&Dresearch and development services with the Company.
Purchase obligations represent contractual agreements to purchase goods or services that are legally binding; specify a fixed, minimum or range of quantities; specify a fixed, minimum, variable, or indexed price provision; and specify approximate timing of the transaction.
The following table presents certain future payments due by the Company as of December 31, 2017, and excludes amounts already recorded on the Consolidated Balance Sheet, except for our line of credit2022 (in thousands): | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Total | | Less Than 1 Year | | 1 - 3 Years | | 3 - 5 Years | | After 5 Years |
| Purchase obligations | $ | 55,291 | | | $ | 27,361 | | | $ | 24,065 | | | $ | 3,865 | | | $ | — | |
| Operating lease obligations | 7,886 | | | 3,257 | | | 2,110 | | | 1,114 | | | 1,405 | |
| Finance lease obligations | 460 | | | 168 | | | 236 | | | 56 | | | — | |
Convertible senior notes (1) | 86,250 | | | — | | | — | | | 86,250 | | | — | |
Future interest obligations (2) | 11,994 | | | 3,234 | | | 6,469 | | | 2,291 | | | — | |
| Total | $ | 161,881 | | | $ | 34,020 | | | $ | 32,880 | | | $ | 93,576 | | | $ | 1,405 | |
(1) Includes the principal amount of the convertible senior notes. Although the notes mature in 2026, they can be converted into cash and shares of our common stock prior to maturity if certain conditions are met. Any conversion prior to maturity can result in repayments of the principal amounts sooner than the scheduled repayments as indicated in the table. For additional information, refer to Note 16 - Convertible Notes to the consolidated financial statements included in Part II. Item 8 of this Annual Report on Form 10-K. |
| | | | | | | | | | | | | | | | | | | |
| | Total | | Less Than 1 Year | | 1 - 3 Years | | 4 - 5 Years | | After 5 Years |
| Purchase obligations | $ | 35,464 |
| | $ | 11,651 |
| | $ | 15,558 |
| | $ | 8,255 |
| | $ | — |
|
| Operating lease obligations | 11,104 |
| | 2,156 |
| | 3,871 |
| | 3,460 |
| | 1,617 |
|
| Revolving credit facility | 6,000 |
| | 6,000 |
| | — |
| | — |
| | — |
|
| Future interest obligations | 180 |
| | 60 |
| | 120 |
| | — |
| | — |
|
| Total | $ | 52,748 |
| | $ | 19,867 |
| | $ | 19,549 |
| | $ | 11,715 |
| | $ | 1,617 |
|
Net Operating Loss Carryforwards
As of December 31, 2017,2022, we had a net domestic operating loss carryforward (“NOL”) and domestic research and development tax credit carryforward. See Note 35 - Income Taxes in the accompanying notes to the consolidated financial statements included in Part II. Item 8 of this Annual Report on Form 10-K for additional information regarding our carryforwards.
Recent Accounting Pronouncements
From time to time, the Financial Accounting Standards Board ("FASB") or other standard setting bodies issue new accounting pronouncements. Updates to the FASB Accounting Standards Codification ("ASC") are communicated through issuance of an Accounting Standards Update ("ASU"). Unless otherwise discussed, we believe that the impact of recently issued guidance, whether adopted or to be adopted in the future, is not expected to have a material impact on our Consolidated Financial Statements upon adoption.
To understand the impact of recently issued guidance, whether adopted or to be adopted, please review the information provided in Note 1- Operations and Summary of Significant Accounting Policies to our Consolidated Financial Statements included in Item 8 of this Form 10-K.
| |
Item 7A. | Quantitative and Qualitative Disclosures about Market Risk |
Item 7A.Quantitative and Qualitative Disclosures about Market Risk
Market risk represents the risk of loss that may impact the financial position, results of operations or cash flows due to adverse changes in financial and commodity market prices and rates. We are exposed to market risk in the areas of changes in United StatesU.S. and foreign interest rates and changes in foreign currency exchange rates as measured against the United States dollar.U.S. Dollar. These exposures are directly related to our normal operating and funding activities.
Interest Rate Risk
At December 31, 2017, there was approximately $6.0
In September 2019, we issued $86.25 million outstandingaggregate principal amount of Notes. The fair market value of the Notes is affected by our common stock price. The fair value of the Notes will generally increase as our common stock price increases and will generally decrease as our common stock price declines in value. In addition, the fair market value of the Notes is exposed to interest rate risk. Generally, the fair market value of our fixed interest rate Notes will increase as interest rates fall and decrease as interest rates rise. Additionally, on our revolving credit facility with Chase.balance sheet we carry the Notes at face value less unamortized discount and debt issuance cost and we present the fair value for required disclosure purposes only. For additional information, refer to Note 16 - Convertible Notes to the consolidated financial statements included in Part II. Item 8 of this Annual Report on Form 10-K and to our consolidated financial statements included herein. We had no interest rate hedge transactions in place on December 31, 2017. We completed an interest rate risk sensitivity analysis based on the above and an assumed one-percentage point increase in interest rates would have an approximate $60 thousand negative impact on our pre-tax earnings based on our outstanding balances as of December 31, 2017.2022.
Foreign Currency Risk
Foreign currency risk may impact our revenue and results of operations. In cases where we purchase inventory in one currency and sell corresponding products in another, our gross margin percentage is typically at risk based on foreign currency exchange rates. In addition, in cases where we may be generating operating income in foreign currencies, the magnitude of such operating income when translated into U.S. dollarsDollars will be at risk based on foreign currency exchange rates. We had no foreign currency hedge transactions in place on December 31, 2017.2022. We do not currently consider foreign currency risk to be material to our business. However, to the extent that the U.S. Dollar is stronger in current or future periods relative to the exchange rates in effect in comparative periods presented, our growth rates will be negatively affected.
Inflation Risk
Inflation generally impacts us by increasing our costs of labor, energy, material, transportation, increased price from suppliers, and general overhead costs. The rates of inflation experienced in recent years have not had a material impact on our financial statements as inflationary cost increases have been offset by annual price increases and productivity gains. However, any price increases imposed may lead to declines in sales volume if competitors do not similarly adjust prices. We cannot reasonably estimate our ability to successfully recover any impact of inflation cost increases into the future.
| |
Item 8. | Financial Statements and Supplementary Data |
Item 8. Financial Statements and Supplementary Data
HESKA CORPORATION
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders
Heska Corporation and Subsidiaries
Loveland, Colorado
OPINIONS ON THE CONSOLIDATED FINANCIAL STATEMENTS AND INTERNAL CONTROL OVER FINANCIAL REPORTINGOpinion on the financial statements
We have audited the accompanying consolidated balance sheets of Heska Corporation (a Delaware corporation) and Subsidiariessubsidiaries (the "Company"“Company”) as of December 31, 20172022 and 2016, and2021, the related consolidated statements of income,loss, comprehensive income, stockholders'loss, changes in stockholders’ equity, and cash flows for each yearof the three years in the three‑year period ended December 31, 2017,2022, and the related notes (collectively referred to as the "financial statements"“financial statements”). We have also audited the Company's internal control over financial reporting as of December 31, 2017, based on the criteria established in Internal Control ‑ Integrated Framework: (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission ("COSO").
In our opinion, thefinancial statements referred to above present fairly, in all material respects, the financial position of the Companyas of December 31, 20172022 and 2016,2021, and the results of itsoperations and itscash flows for each yearof the three years in the three‑year period ended December 31, 2017,2022, in conformity with accounting principles generally accepted in the United States of America. Also,
We also have audited, in our opinion,accordance with the standards of the Public Company maintained, in all material respects, effectiveAccounting Oversight Board (United States) (“PCAOB”), the Company’s internal control over financial reporting as of December 31, 2017,2022, based on criteria established in the 2013 Internal Control ‑ Control—Integrated Framework: (2013)Framework issued by COSO.the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”), and our report dated February 28, 2023expressed an unqualified opinion.
BASIS FOR OPINIONS
The Company's management is responsibleBasis for theseopinion
These financial statements for maintaining effective internal control over financial reporting, and for its assessmentare the responsibility of the effectiveness of internal control over financial reporting, included in the accompanying Management's Report on Internal Control over Financial Reporting.Company’s management. Our responsibility is to express an opinion on the Company'sCompany’s financial statements and an opinion on the Company's internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB")PCAOB and are required to be independent with respect to the Company in accordance with the USU.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the auditsaudit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.
fraud. Our audits of the financial statements included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical audit matter
The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Stock-based compensation – assessment of probability related to stock-based compensation subject to performance-based vesting requirements
As described further in Note 12to the financial statements, the Company grants restricted stock awards, restricted stock units, and stock options to management and directors. Certain restricted stock awards,
restricted stock units, and stock options have performance-based vesting conditions, which vest based on when performance targets are met. Performance-based awards are recognized as an expense based on the probability of achieving the underlying performance targets. We identified the probability assessment of achieving the performance targets as a critical audit matter.
The principal considerations for our determination that the probability assessment of achieving the performance targets is a critical audit matter is that the probability is based on a subjective assessment of the Company’s prospective financial information. The probability assessment requires management to estimate achievement of future financial performance for sales growth, margins, and operating performance. Changes in the subjective probability assessment can materially affect the amount and timing of stock-based compensation expense and the probability assessment requires significant auditor subjectivity in evaluating the reasonableness of those judgments and estimates.
Our audit procedures related to the probability assessment of achieving the performance targets included the following, among others.
–We tested the design and operating effectiveness of internal controls related to management’s determination of stock-based compensation expense, including testing management’s review control over the Company’s forecast and multi-year outlook to achieve those performance targets and the manual control over the calculation of performance-based stock compensation.
–We evaluated the reasonableness of management’s prospective financial information by comparing management’s previous forecasts to actual results to assess management’s ability to accurately forecast actual results. We also evaluated the reasonableness of forecasted revenue, margin, and operating performance by comparing each to current market and industry trends, historical information, and inquiring of individuals outside the finance department. We also evaluated the consistency of forecasts used in the probability assessment with other elements of the financial statements that use the forecast as an input.
/s/ GRANT THORNTON LLP
We have served as the Company’s auditor since 2020.
Denver, Colorado
February 28, 2023
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders
Heska Corporation
Opinion on internal control over financial reporting
We have audited the internal control over financial reporting of Heska Corporation (a Delaware corporation) and subsidiaries (the “Company”) as of December 31, 2022, based on criteria established in the 2013 Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2022, based on criteria established in the 2013 Internal Control—Integrated Framework issued by COSO.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the consolidated financial statements of the Company as of and for the year ended December 31, 2022, and our report dated February 28, 2023 expressed an unqualified opinion on those financial statements.
Basis for opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also includedrisk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audits provideaudit provides a reasonable basis for our opinions.opinion.
Definition and limitations of internal control over financial reporting
DEFINITION AND LIMITATIONS OF INTERNAL CONTROL OVER FINANCIAL REPORTING
A company'scompany’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company'scompany’s internal control over financial reporting includes those policies and procedures that (i)(1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii)(2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii)(3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company'scompany’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ GRANT THORNTON LLP
March 9, 2018
Denver, Colorado
February 28, 2023
We have served as the Company's auditor since 2006.
HESKA CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share amounts)
| | | | | December 31, | | | December 31, |
| | | 2017 | | 2016 | | | 2022 | | 2021 |
| ASSETS | ASSETS | ASSETS |
| Current assets: | | |
| | |
| Current assets: | | | | |
| Cash and cash equivalents | | $ | 9,659 |
| | $ | 10,794 |
| Cash and cash equivalents | | $ | 156,618 | | | $ | 223,574 | |
Accounts receivable, net of allowance for doubtful accounts of
$215 and $237, respectively | | 15,710 |
| | 20,857 |
| |
| Due from – related parties | | 1 |
| | 100 |
| |
| Inventories, net | | 32,596 |
| | 20,395 |
| |
| Lease receivable, current | | 2,069 |
| | 825 |
| |
| Accounts receivable, net of allowance for losses of $1,129 and $874, respectively | | Accounts receivable, net of allowance for losses of $1,129 and $874, respectively | | 29,493 | | | 27,995 | |
| Inventories | | Inventories | | 60,050 | | | 49,361 | |
Net investment in leases, current, net of allowance for losses of $182 and $137, respectively
| | Net investment in leases, current, net of allowance for losses of $182 and $137, respectively
| | 7,433 | | | 6,175 | |
| Prepaid expenses | | Prepaid expenses | | 5,514 | | | 5,244 | |
| Other current assets | | 2,877 |
| | 2,302 |
| Other current assets | | 5,926 | | | 7,206 | |
| Total current assets | | 62,912 |
| | 55,273 |
| Total current assets | | 265,034 | | | 319,555 | |
| | | | | | |
| Property and equipment, net | | 17,331 |
| | 16,581 |
| Property and equipment, net | | 32,171 | | | 33,413 | |
Operating lease right-of-use assets
| | Operating lease right-of-use assets
| | 6,897 | | | 5,198 | |
| Goodwill | | 26,687 |
| | 26,647 |
| Goodwill | | 135,918 | | | 118,826 | |
| Other intangible assets, net | | 1,958 |
| | 2,346 |
| Other intangible assets, net | | 62,393 | | | 56,705 | |
| Deferred tax asset, net | | 11,877 |
| | 21,122 |
| Deferred tax asset, net | | 23,684 | | | 19,429 | |
| Lease receivable, non-current | | 9,615 |
| | 4,833 |
| |
Net investment in leases, non-current
| | Net investment in leases, non-current
| | 27,499 | | | 20,128 | |
| Investments in unconsolidated affiliates | | Investments in unconsolidated affiliates | | 3,959 | | | 5,424 | |
| Related party convertible note receivable, net | | Related party convertible note receivable, net | | 2,224 | | | 6,800 | |
| Promissory note receivable from investee, net | | Promissory note receivable from investee, net | | 13,511 | | | 8,448 | |
| Other non-current assets | | 5,407 |
| | 4,042 |
| Other non-current assets | | 12,526 | | | 10,146 | |
| Total assets | | $ | 135,787 |
| | $ | 130,844 |
| Total assets | | $ | 585,816 | | | $ | 604,072 | |
| | | | | | |
| LIABILITIES AND STOCKHOLDERS' EQUITY | LIABILITIES AND STOCKHOLDERS' EQUITY | LIABILITIES AND STOCKHOLDERS' EQUITY |
| Current liabilities: | | |
| | |
| Current liabilities: | | | | |
| Accounts payable | | $ | 9,489 |
| | $ | 6,343 |
| Accounts payable | | $ | 16,403 | | | $ | 15,374 | |
| Due to – related party | | 1,828 |
| | 1,578 |
| |
| Accrued liabilities | | 4,417 |
| | 5,581 |
| Accrued liabilities | | 15,149 | | | 19,424 | |
| Current portion of deferred revenue | | 3,992 |
| | 3,560 |
| |
| Obligation to purchase minority interest | | — |
| | 14,602 |
| |
| Line of credit and other short-term borrowings | | 6,000 |
| | 750 |
| |
Operating lease liabilities, current
| | Operating lease liabilities, current
| | 2,944 | | | 2,227 | |
| Deferred revenue, current, and other | | Deferred revenue, current, and other | | 5,081 | | | 6,901 | |
| Total current liabilities | | 25,726 |
| | 32,414 |
| Total current liabilities | | 39,577 | | | 43,926 | |
| | | | | | |
| Deferred revenue, net of current portion, and other | | 9,621 |
| | 11,455 |
| |
Convertible note, non-current, net
| | Convertible note, non-current, net
| | 84,467 | | | 84,034 | |
| Notes payable | | Notes payable | | 11,130 | | | 15,900 | |
| Deferred revenue, non-current | | Deferred revenue, non-current | | 4,096 | | | 3,854 | |
| Operating lease liabilities, non-current | | Operating lease liabilities, non-current | | 4,528 | | | 3,509 | |
| Deferred tax liability | | Deferred tax liability | | 16,438 | | | 12,667 | |
| Other liabilities | | Other liabilities | | 3,372 | | | 4,328 | |
| Total liabilities | | 35,347 |
| | 43,869 |
| Total liabilities | | 163,608 | | | 168,218 | |
| Commitments and contingencies (Note 11) | |
|
| |
|
| |
| | | | | | |
| Commitments and contingencies (Note 14) | | Commitments and contingencies (Note 14) | | | | |
| Stockholders' equity: | | |
| | |
| Stockholders' equity: | | | | |
Preferred stock, $.01 par value, 2,500,000 shares authorized,
none issued or outstanding | | — |
| | — |
| |
Common stock, $.01 par value, 10,000,000 shares authorized,
none issued or outstanding | | — |
| | — |
| |
Public common stock, $.01 par value, 10,000,000 shares authorized,
7,302,954 and 7,026,051 shares issued and outstanding, respectively | | 73 |
| | 70 |
| |
| Preferred stock, $0.01 par value, 2,500,000 shares authorized, none issued or outstanding | | Preferred stock, $0.01 par value, 2,500,000 shares authorized, none issued or outstanding | | — | | | — | |
| Common stock, $0.01 par value, 20,000,000 shares authorized, none issued or outstanding | | Common stock, $0.01 par value, 20,000,000 shares authorized, none issued or outstanding | | — | | | — | |
| Public common stock, $0.01 par value, 20,000,000 shares authorized, 10,829,518 and 10,712,347 shares issued and outstanding, respectively | | Public common stock, $0.01 par value, 20,000,000 shares authorized, 10,829,518 and 10,712,347 shares issued and outstanding, respectively | | 108 | | | 107 | |
| Additional paid-in capital | | 243,598 |
| | 238,635 |
| Additional paid-in capital | | 597,139 | | | 579,354 | |
| Accumulated other comprehensive income | | 232 |
| | 97 |
| |
| Accumulated other comprehensive (loss) income | | Accumulated other comprehensive (loss) income | | (6,506) | | | 5,037 | |
| Accumulated deficit | | (143,463 | ) | | (151,827 | ) | Accumulated deficit | | (168,533) | | | (148,644) | |
| Total stockholders' equity | | 100,440 |
| | 86,975 |
| Total stockholders' equity | | 422,208 | | | 435,854 | |
| Total liability and stockholders' equity | | $ | 135,787 |
| | $ | 130,844 |
| |
| Total liabilities and stockholders' equity | | Total liabilities and stockholders' equity | | $ | 585,816 | | | $ | 604,072 | |
See accompanying notes to consolidated financial statements.
HESKA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOMELOSS
(in thousands, except per share amounts)
|
| | | | | | | | | | | | |
| | | Year Ended December 31, |
| | | 2017 | | 2016 | | 2015 |
| Revenue: | | |
| | |
| | |
|
| Core companion animal health | | $ | 105,191 |
| | $ | 107,398 |
| | $ | 84,249 |
|
| Other vaccines, pharmaceuticals and products | | 24,150 |
| | 22,685 |
| | 20,348 |
|
| Total revenue, net | | 129,341 |
| | 130,083 |
| | 104,597 |
|
| | | | | | | |
| Cost of revenue | | 71,080 |
| | 76,191 |
| | 60,384 |
|
| | | | | | | |
| Gross profit | | 58,261 |
| | 53,892 |
| | 44,213 |
|
| | | | | | | |
| Operating expenses: | | |
| | |
| | |
|
| Selling and marketing | | 23,225 |
| | 22,092 |
| | 21,339 |
|
| Research and development | | 2,004 |
| | 2,147 |
| | 1,658 |
|
| General and administrative | | 14,813 |
| | 13,120 |
| | 12,659 |
|
| Total operating expenses | | 40,042 |
|
| 37,359 |
|
| 35,656 |
|
| Operating income | | 18,219 |
| | 16,533 |
| | 8,557 |
|
| Interest and other (income) expense, net | | (150 | ) | | 29 |
| | 130 |
|
| Income before income taxes | | 18,369 |
| | 16,504 |
| | 8,427 |
|
| Income tax expense: | | |
| | |
| | |
|
| Current income tax expense | | 49 |
| | 407 |
| | 1,581 |
|
| Deferred income tax expense | | 8,864 |
| | 3,932 |
| | 1,327 |
|
| Total income tax expense | | 8,913 |
|
| 4,339 |
|
| 2,908 |
|
| | | | | | | |
| Net income | | 9,456 |
| | 12,165 |
| | 5,519 |
|
| Net (loss) income attributable to non-controlling interest | | (497 | ) | | 1,657 |
| | 280 |
|
| Net income attributable to Heska Corporation | | $ | 9,953 |
| | $ | 10,508 |
| | $ | 5,239 |
|
| | | | | | | |
Basic earnings per share attributable to Heska Corporation | | $ | 1.42 |
| | $ | 1.55 |
| | $ | 0.80 |
|
Diluted earnings per share attributable to Heska Corporation | | $ | 1.30 |
| | $ | 1.43 |
| | $ | 0.74 |
|
| | | | | | | |
| Weighted average outstanding shares used to compute basic earnings per share attributable to Heska Corporation | | 7,026 |
| | 6,783 |
| | 6,509 |
|
| Weighted average outstanding shares used to compute diluted earnings per share attributable to Heska Corporation | | 7,642 |
| | 7,361 |
| | 7,074 |
|
| | | | | | | | | | | | | | | | | | | | |
| | | Year Ended December 31, |
| | | 2022 | | 2021 | | 2020 |
| Revenue, net | | $ | 257,307 | | | $ | 253,739 | | | $ | 197,323 | |
| Cost of revenue | | 146,140 | | | 147,945 | | | 116,033 | |
| Gross profit | | 111,167 | | | 105,794 | | | 81,290 | |
| | | | | | |
| Operating expenses: | | | | | | |
| Selling and marketing | | 47,661 | | | 45,284 | | | 38,468 | |
| Research and development | | 19,753 | | | 6,982 | | | 8,772 | |
| General and administrative | | 64,051 | | | 54,521 | | | 42,242 | |
| Total operating expenses | | 131,465 | | | 106,787 | | | 89,482 | |
| Operating loss | | (20,298) | | | (993) | | | (8,192) | |
| Interest and other expense, net | | 1,536 | | | 2,448 | | | 5,601 | |
| Net loss before income taxes and equity in losses of unconsolidated affiliates | | (21,834) | | | (3,441) | | | (13,793) | |
| Income tax (benefit) expense: | | | | | | |
| Current income tax expense | | 1,288 | | | 891 | | | 1,780 | |
| Deferred income tax benefit | | (4,698) | | | (4,464) | | | (1,541) | |
| Total income tax (benefit) expense | | (3,410) | | | (3,573) | | | 239 | |
| | | | | | |
| Net (loss) income before equity in losses of unconsolidated affiliates | | (18,424) | | | 132 | | | (14,032) | |
| Equity in losses of unconsolidated affiliates | | (1,465) | | | (1,280) | | | (720) | |
| Net loss after equity in losses of unconsolidated affiliates | | (19,889) | | | (1,148) | | | (14,752) | |
| Net loss attributable to redeemable non-controlling interest | | — | | | — | | | (353) | |
| Net loss attributable to Heska Corporation | | $ | (19,889) | | | $ | (1,148) | | | $ | (14,399) | |
| | | | | | |
| Basic loss per share attributable to Heska Corporation | | $ | (1.92) | | | $ | (0.11) | | | $ | (1.66) | |
| Diluted loss per share attributable to Heska Corporation | | $ | (1.92) | | | $ | (0.11) | | | $ | (1.66) | |
| | | | | | |
| Weighted average outstanding shares used to compute basic loss per share attributable to Heska Corporation | | 10,343 | | | 10,015 | | | 8,653 | |
| Weighted average outstanding shares used to compute diluted loss per share attributable to Heska Corporation | | 10,343 | | | 10,015 | | | 8,653 | |
See accompanying notes to consolidated financial statements.
HESKA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOMELOSS
(in thousands)
| | | | | | | | | | | | | | | | | | | | |
| | | Year Ended December 31, |
| | | 2022 | | 2021 | | 2020 |
| Net loss after equity in losses of unconsolidated affiliates | | $ | (19,889) | | | $ | (1,148) | | | $ | (14,752) | |
| Other comprehensive income (loss): | | | | | | |
| Minimum pension benefit (liability) | | 99 | | | 107 | | | (40) | |
| Translation adjustments and (losses) gains from intra-entity transactions | | (11,642) | | | (9,239) | | | 13,696 | |
| Comprehensive loss | | (31,432) | | | (10,280) | | | (1,096) | |
| | | | | | |
| Comprehensive loss attributable to redeemable non-controlling interest | | — | | | — | | | (353) | |
| Comprehensive loss attributable to Heska Corporation | | $ | (31,432) | | | $ | (10,280) | | | $ | (743) | |
|
| | | | | | | | | | | | |
| | | Year Ended December 31, |
| | | 2017 | | 2016 | | 2015 |
| | | | | | | |
| Net income | | $ | 9,456 |
| | $ | 12,165 |
| | $ | 5,519 |
|
| Other comprehensive income (loss): | | |
| | |
| | |
|
| Minimum pension liability | | 12 |
| | 75 |
| | (129 | ) |
| Sale of equity investment | | — |
| | (90 | ) | | 44 |
|
| Foreign currency translation | | 123 |
| | (75 | ) | | (11 | ) |
| Comprehensive income | | 9,591 |
|
| 12,075 |
|
| 5,423 |
|
| | | | | | | |
| Comprehensive (loss) income attributable to non-controlling interest | | (497 | ) | | 1,657 |
| | 280 |
|
| Comprehensive income attributable to Heska Corporation | | $ | 10,088 |
|
| $ | 10,418 |
|
| $ | 5,143 |
|
See accompanying notes to consolidated financial statements.
HESKA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(in thousands)
|
| | | | | | | | | | | | | | | | | | | | | | | |
| | | Common Stock | | Additional Paid-in Capital | | Accumulated Other Comprehensive Income | | Accumulated Deficit | |
Total
Stockholders'
Equity |
| | | Shares | | Amount | |
| Balances January 1, 2015 | | 6,342 |
| | $ | 63 |
| | $ | 222,297 |
| | $ | 283 |
| | $ | (169,511 | ) | | $ | 53,132 |
|
| Net income | | — |
| | — |
| | — |
| | — |
| | 5,519 |
| | 5,519 |
|
Issuance of common stock, net of shares withheld for employee taxes
| | 283 |
| | 3 |
| | 1,255 |
| | — |
| | — |
| | 1,258 |
|
| Stock-based compensation | | — |
| | — |
| | 2,269 |
| | — |
| | — |
| | 2,269 |
|
| Excess tax benefit from stock-based compensation | | — |
| | — |
| | 1,514 |
| | — |
| | — |
| | 1,514 |
|
| Accretion of non-controlling interest | | — |
| | — |
| | (68 | ) | | — |
| | — |
| | (68 | ) |
| Other comprehensive income (loss) | | — |
| | — |
| | — |
| | (96 | ) | | — |
| | (96 | ) |
| Balances, December 31, 2015 | | 6,625 |
| | $ | 66 |
| | $ | 227,267 |
| | $ | 187 |
| | $ | (163,992 | ) | | $ | 63,528 |
|
| Net income | | — |
| | — |
| | — |
| | — |
| | 12,165 |
| | 12,165 |
|
| Issuance of common stock related to the acquisition of Cuattro Veterinary International, LLC | | 175 |
| | 2 |
| | 6,347 |
| | — |
| | — |
| | 6,349 |
|
Issuance of common stock, net of shares withheld for employee taxes
| | 226 |
| | 2 |
| | 1,616 |
| | — |
| | — |
| | 1,618 |
|
| Stock-based compensation | | — |
| | — |
| | 2,260 |
| | — |
| | — |
| | 2,260 |
|
| Accretion of non-controlling interest | | — |
| | — |
| | 1,145 |
| | — |
| | — |
| | 1,145 |
|
| Other comprehensive income (loss) | | — |
| | — |
| | — |
| | (90 | ) | | — |
| | (90 | ) |
| Balances, December 31, 2016 | | 7,026 |
| | $ | 70 |
| | $ | 238,635 |
| | $ | 97 |
| | $ | (151,827 | ) | | $ | 86,975 |
|
| Net income | | — |
| | — |
| | — |
| | — |
| | 9,456 |
| | 9,456 |
|
| Issuance of common stock, net of shares withheld for employee taxes | | 277 |
| | 3 |
| | 1,373 |
| | — |
| | — |
| | 1,376 |
|
| Stock-based compensation | | — |
| | — |
| | 2,745 |
| | — |
| | — |
| | 2,745 |
|
| Accretion of non-controlling interest | | — |
| | — |
| | 845 |
| | — |
| | — |
| | 845 |
|
| Distribution for Heska Imaging minority | | — |
| | — |
| | — |
| | — |
| | (1,092 | ) | | (1,092 | ) |
| Other comprehensive income (loss) | | — |
| | — |
| | — |
| | 135 |
| | — |
| | 135 |
|
| Balances, December 31, 2017 | | 7,303 |
| | $ | 73 |
| | $ | 243,598 |
| | $ | 232 |
| | $ | (143,463 | ) | | $ | 100,440 |
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Preferred Stock | |
Common Stock | |
Additional
Paid-in
Capital | | Accumulated
Other
Comprehensive
Income (Loss) | |
Accumulated
Deficit | |
Total
Stockholders'
Equity |
| | | Shares | | Amount | | Shares | | Amount | |
| Balances, December 31, 2019 | | — | | | $ | — | | | 7,882 | | | $ | 79 | | | $ | 290,216 | | | $ | 513 | | | $ | (136,444) | | | $ | 154,364 | |
| Adoption of accounting standards | | — | | | — | | | — | | | — | | | — | | | — | | | (18) | | | (18) | |
| Balances, January 1, 2020 | | — | | | — | | | 7,882 | | | 79 | | | 290,216 | | | 513 | | | (136,462) | | | 154,346 | |
| Net loss attributable to Heska Corporation | | — | | | — | | | — | | | — | | | — | | | — | | | (14,399) | | | (14,399) | |
| Issuance of common stock, net of shares withheld for employee taxes | | — | | | — | | | 85 | | | 1 | | | 2,795 | | | — | | | — | | | 2,796 | |
| Issuance of preferred stock | | 122 | | | 1 | | | — | | | — | | | 121,785 | | | — | | | — | | | 121,786 | |
| Conversion to common stock | | (122) | | | (1) | | | 1,509 | | | 15 | | | (14) | | | — | | | — | | | — | |
| Stock-based compensation | | — | | | — | | | — | | | — | | | 9,490 | | | — | | | — | | | 9,490 | |
| Purchase of minority interest | | — | | | — | | | — | | | — | | | (622) | | | — | | | — | | | (622) | |
| Other comprehensive income | | — | | | — | | | — | | | — | | | — | | | 13,656 | | | — | | | 13,656 | |
| Balances, December 31, 2020 | | — | | | $ | — | | | 9,476 | | | $ | 95 | | | $ | 423,650 | | | $ | 14,169 | | | $ | (150,861) | | | $ | 287,053 | |
| Adoption of accounting standards | | — | | | — | | | — | | | — | | | (29,834) | | | — | | | 3,365 | | | (26,469) | |
| Balances, January 1, 2021 | | — | | | — | | | 9,476 | | | 95 | | | 393,816 | | | 14,169 | | | (147,496) | | | 260,584 | |
| Net loss attributable to Heska Corporation | | — | | | — | | | — | | | — | | | — | | | — | | | (1,148) | | | (1,148) | |
| Issuance of common stock, net of shares withheld for employee taxes | | — | | | — | | | 295 | | | 3 | | | 3,098 | | | — | | | — | | | 3,101 | |
| Equity offering, net of issuance costs | | — | | | — | | | 941 | | | 9 | | | 164,177 | | | — | | | — | | | 164,186 | |
| Stock-based compensation | | — | | | — | | | — | | | — | | | 18,263 | | | — | | | — | | | 18,263 | |
| Other comprehensive loss | | — | | | — | | | — | | | — | | | — | | | (9,132) | | | — | | | (9,132) | |
| Balances, December 31, 2021 | | — | | | $ | — | | | 10,712 | | | $ | 107 | | | $ | 579,354 | | | $ | 5,037 | | | $ | (148,644) | | | $ | 435,854 | |
| Net loss attributable to Heska Corporation | | — | | | — | | | — | | | — | | | — | | | — | | | (19,889) | | | (19,889) | |
| Issuance of common stock, net of shares withheld for employee taxes | | — | | | — | | | 118 | | | 1 | | | (2,079) | | | — | | | — | | | (2,078) | |
| Equity contingent consideration | | — | | | — | | | — | | | — | | | 3,860 | | | — | | | — | | | 3,860 | |
| Stock-based compensation | | — | | | — | | | — | | | — | | | 16,004 | | | — | | | — | | | 16,004 | |
| Other comprehensive loss | | — | | | — | | | — | | | — | | | — | | | (11,543) | | | — | | | (11,543) | |
| Balances, December 31, 2022 | | — | | | $ | — | | | 10,830 | | | $ | 108 | | | $ | 597,139 | | | $ | (6,506) | | | $ | (168,533) | | | $ | 422,208 | |
See accompanying notes to consolidated financial statements.
HESKA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands) | | | | | | | | | | | | | | | | | | | | |
| | | Year Ended December 31, |
| | | 2022 | | 2021 | | 2020 |
| CASH FLOWS FROM OPERATING ACTIVITIES: | | | | | | |
| Net loss after equity in losses from unconsolidated affiliates | | $ | (19,889) | | | $ | (1,148) | | | $ | (14,752) | |
| Adjustments to reconcile net loss to cash provided by (used in) operating activities: | | | | |
| Depreciation and amortization | | 13,966 | | | 13,555 | | | 11,385 | |
Non-cash impact of operating leases
| | 2,738 | | | 2,136 | | | 1,985 | |
| Deferred income tax benefit | | (4,698) | | | (4,464) | | | (1,541) | |
| Stock-based compensation | | 16,004 | | | 18,263 | | | 9,490 | |
| Provision for credit losses on convertible note receivable | | 3,899 | | | — | | | — | |
| Change in fair value of contingent consideration | | (1,641) | | | (1,607) | | | — | |
| Equity in losses of unconsolidated affiliates | | 1,465 | | | 1,280 | | | 720 | |
Accretion of discounts and issuance costs
| | 36 | | | 60 | | | 3,090 | |
| Provision for credit losses | | — | | | 353 | | | 614 | |
| Other losses (gains) | | 1,759 | | | 1,266 | | | (91) | |
| Changes in operating assets and liabilities (net of effect of acquisitions): | | | | | | |
| Accounts receivable | | (1,494) | | | 2,193 | | | (5,755) | |
| Inventories | | (13,981) | | | (14,905) | | | (5,409) | |
| Lease receivables | | (9,078) | | | (5,902) | | | (611) | |
| Other assets | | (1,887) | | | (4,329) | | | 340 | |
| Accounts payable | | 1,428 | | | 662 | | | (280) | |
| Other liabilities | | (10,440) | | | (1,166) | | | 159 | |
| Net cash (used in) provided by operating activities | | (21,813) | | | 6,247 | | | (656) | |
| CASH FLOWS FROM INVESTING ACTIVITIES: | | | | | | |
| Acquisition of VetZ, net of cash acquired | | (28,956) | | | — | | | — | |
| Acquisition of Biotech | | — | | | (16,250) | | | — | |
| Acquisition of BiEssA, net of cash acquired | | — | | | (4,513) | | | — | |
| Acquisition of Lacuna, net of cash acquired | | — | | | (3,882) | | | — | |
| Acquisition of scil, net of cash acquired | | — | | | — | | | (104,401) | |
| Acquisition of CVM | | — | | | — | | | (14,420) | |
| Promissory note receivable issuance | | (4,700) | | | (9,000) | | | — | |
| Convertible note receivable issuance | | — | | | — | | | (6,650) | |
| Purchase of minority interest | | — | | | — | | | (450) | |
| Purchases of property and equipment | | (2,114) | | | (1,768) | | | (686) | |
| Proceeds from disposition of property and equipment | | — | | | 412 | | | 10 | |
| Net cash used in investing activities | | (35,770) | | | (35,001) | | | (126,597) | |
| CASH FLOWS FROM FINANCING ACTIVITIES: | | | | | | |
| Proceeds from issuance of common stock | | 3,191 | | | 169,230 | | | 4,273 | |
| Payments for taxes related to shares withheld for employee taxes | | (5,269) | | | (1,629) | | | (1,477) | |
| Payment of stock issuance costs | | — | | | (314) | | | (214) | |
| Proceeds from issuance of preferred stock | | — | | | — | | | 122,000 | |
| Payments of related party debts | | — | | | — | | | (1,140) | |
| Borrowings on line of credit and other debts | | — | | | 7 | | | 613 | |
| Repayments of line of credit borrowings and other debts | | (203) | | | (890) | | | (291) | |
| Notes Payable | | (4,770) | | | — | | | — | |
| Net cash (used in) provided by financing activities | | (7,051) | | | 166,404 | | | 123,764 | |
| FOREIGN EXCHANGE EFFECT ON CASH AND CASH EQUIVALENTS | | (2,322) | | | (410) | | | 793 | |
| NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS | | (66,956) | | | 137,240 | | | (2,696) | |
| CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR | | 223,574 | | | 86,334 | | | 89,030 | |
| CASH AND CASH EQUIVALENTS, END OF YEAR | | $ | 156,618 | | | $ | 223,574 | | | $ | 86,334 | |
| | | | | | |
| | | | | | |
|
| | | | | | | | | | | | |
| | | Year Ended December 31, |
| | | 2017 | | 2016 | | 2015 |
| CASH FLOWS FROM OPERATING ACTIVITIES: | | | | | | |
| Net income | | $ | 9,456 |
| | $ | 12,165 |
| | $ | 5,519 |
|
| Adjustments to reconcile net income to cash provided by operating activities: | | |
| | |
| | |
|
| Depreciation and amortization | | 4,754 |
| | 4,645 |
| | 4,187 |
|
| Deferred income tax expense | | 8,864 |
| | 3,932 |
| | 1,327 |
|
| Stock-based compensation | | 2,745 |
| | 2,260 |
| | 2,269 |
|
| Other (gain) loss | | (46 | ) | | (3 | ) | | 36 |
|
| Changes in operating assets and liabilities: | | |
| | |
| | |
|
| Accounts receivable | | 5,156 |
| | (4,700 | ) | | (4,216 | ) |
| Inventories | | (13,834 | ) | | (4,731 | ) | | (7,240 | ) |
| Due from related parties | | 99 |
| | (59 | ) | | 851 |
|
| Lease receivable, current | | (1,244 | ) | | (736 | ) | | (89 | ) |
| Other current assets | | (469 | ) | | 883 |
| | (1,000 | ) |
| Accounts payable | | 3,143 |
| | (688 | ) | | 3,059 |
|
| Due to related parties | | 250 |
| | 1,356 |
| | (30 | ) |
| Accrued liabilities and other | | (1,293 | ) | | (351 | ) | | 73 |
|
| Lease receivable, non-current | | (4,782 | ) | | (3,867 | ) | | (967 | ) |
| Other non-current assets | | (989 | ) | | (1,951 | ) | | (1,463 | ) |
| Deferred revenue and other | | (1,401 | ) | | (2,300 | ) | | (191 | ) |
| Net cash provided by operating activities | | 10,409 |
| | 5,855 |
| | 2,125 |
|
| CASH FLOWS FROM INVESTING ACTIVITIES: | | | | | | |
| Proceeds from sale of equity investment | | — |
| | 115 |
| | — |
|
| Purchase of minority interest | | (13,757 | ) | | — |
| | — |
|
| Purchases of property and equipment | | (3,469 | ) | | (3,417 | ) | | (3,773 | ) |
| Proceeds from disposition of property and equipment | | 57 |
| | — |
| | — |
|
| Net cash used in investing activities | | (17,169 | ) | | (3,302 | ) | | (3,773 | ) |
| CASH FLOWS FROM FINANCING ACTIVITIES: | | | | | | |
| Proceeds from issuance of common stock | | 2,452 |
| | 2,382 |
| | 2,143 |
|
| Repurchase of common stock | | (1,076 | ) | | (762 | ) | | (885 | ) |
| Distributions to non-controlling interest members | | (965 | ) | | — |
| | — |
|
| Proceeds from line of credit borrowings | | 40,307 |
| | 34,792 |
| | 26,809 |
|
| Repayments of line of credit borrowings | | (34,979 | ) | | (34,262 | ) | | (26,714 | ) |
| Repayments of other debt | | (68 | ) | | (747 | ) | | (141 | ) |
| Payment of debt issuance costs | | (120 | ) | | — |
| | — |
|
| Excess tax benefit from stock-based compensation | | — |
| | — |
| | 1,514 |
|
| Net cash provided by financing activities | | 5,551 |
| | 1,403 |
| | 2,726 |
|
| NET EFFECT OF EXCHANGE RATE CHANGES ON CASH | | 74 |
| | (52 | ) | | (43 | ) |
| NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS | | (1,135 | ) | | 3,904 |
| | 1,035 |
|
| CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR | | 10,794 |
| | 6,890 |
| | 5,855 |
|
| CASH AND CASH EQUIVALENTS, END OF YEAR | | $ | 9,659 |
| | $ | 10,794 |
| | $ | 6,890 |
|
| NON-CASH TRANSACTIONS: | | | | | | |
| Common stock issued as partial consideration of acquisition of Cuattro Veterinary International, LLC | | $ | — |
| | $ | 6,349 |
| | $ | — |
|
| | | | | | | | | | | | | | | | | | | | |
| SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: | | | | | | |
| Non-cash transfers of equipment between inventory and property and equipment, net | | $ | 2,563 | | | $ | 4,600 | | | $ | 4,437 | |
| Non-cash conversion of preferred stock to common stock | | $ | — | | | $ | — | | | $ | 122,000 | |
| Contingent consideration for acquisitions | | $ | 3,860 | | | $ | 4,034 | | | $ | — | |
| Notes payable issued in acquisition | | $ | — | | | $ | 15,900 | | | $ | — | |
| Indemnity holdback for acquisition | | $ | 1,420 | | | $ | 346 | | | $ | — | |
See accompanying notes to consolidated financial statements.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Heska Corporation and its wholly-owned subsidiaries ("Heska", the "Company", "we" or "our") sell, veterinarymanufacture, market and animal healthsupport diagnostic and specialty products.products and solutions for veterinary practitioners. Our offerings include point of care diagnosticsportfolio includes POC diagnostic laboratory instruments and supplies,consumables including rapid assay diagnostic products and digital cytology services; POC digital imaging diagnostics products, software and services, vaccines,diagnostic products; local and cloud-based data services,services; PIMS and related software and support; reference laboratory testing; allergy testing and immunotherapy, and single-use offerings such as in-clinic diagnostic tests andimmunotherapy; heartworm preventive products.products; and vaccines. Our coreprimary focus is on supporting companion animal veterinarians in the canine and feline healthcare space.providing care to their patients.
Basis of Presentation and Consolidation
In the opinion of management, the accompanying Consolidated Financial Statements contain all adjustments, consisting of normal, recurring adjustments, necessary to present fairly the financial position of the Company as of December 31, 2022 and 2021, as well as the results of our operations, statements of stockholders' equity and cash flows for the years ended December 31, 2022, 2021 and 2020.
The audited Consolidated Financial Statements included herein have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission ("SEC"). Our consolidated financial statementsaudited Consolidated Financial Statements include our accounts and the accounts of our wholly-owned subsidiaries since their respective dates of acquisitions. All intercompany accounts and transactions have been eliminated in consolidation. Where our ownership of a subsidiary was less than 100%, the non-controlling interest is reported on our consolidated balance sheets. The non-controlling interest in our consolidated net incomeloss is reported as "Net income (loss)loss attributable to non-controlling interest" on our consolidated statementsConsolidated Statements of income.Loss. Our consolidated financial statementsaudited Consolidated Financial Statements are stated in United States dollarsU.S. Dollars and have been prepared in accordance with accounting principles generally accepted in the United StatesU.S. ("US GAAP").
Reclassification
To maintain consistency and comparability, certain amounts in the financial statements have been reclassified to conform to current year presentation.
Use of Estimates
The preparation of financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Significant estimates are required when establishing the allowance for doubtful accountscredit losses and the provision for excess or obsolete inventory, innet realizable value of inventory; determining future costs associated with warranties provided, inprovided; determining the period over which our obligations are fulfilled under agreements to license product rights and/or technology rights,rights; evaluating long-lived and intangible assets and investments for impairment,estimated useful lives and impairment; estimating the useful lives and standalone selling prices of equipmentinstruments under leasing arrangements,arrangements; determining the allocation of purchase price under purchase accounting,accounting; estimating the expense associated with the granting of stock options, and instock; determining the need for, and the amount of a valuation allowance on deferred tax assets.assets; determining the fair value of our embedded derivatives; determining the value of the contingent consideration in a business combination and determining the value of the non-controlling interest in a business combination. Our actual results may differ from these estimates and there may be changes to those estimates in future periods.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Concentration of Credit Risk
Financial instruments that potentially subject us to a concentration of credit risk consist of cash and cash equivalents and accounts receivable. We maintain the majority of our cash and cash equivalents with high credit quality financial institutions, and at times may have cash levels that management believes are creditworthy in the form of demand deposits.exceed federally insured limits. We have no significant off-balance-sheet concentrations of credit risk such as foreign exchange contracts, options contracts or other foreign currency hedging arrangements. Our accounts receivable balances are due largely from distribution partners, domestic veterinary clinics and individual veterinarians and other animal health companies.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Henry Schein represented 16% of our consolidated accounts receivable at December 31, 2017 and 2016. Merck entities represented approximately 15% and 11% of our consolidated accounts receivable at December 31, 2017 and 2016, respectively. DLL represented 11% and 18% of our consolidated accounts receivable at December 31, 2017 and 2016, respectively. Eli Lilly entities, including Elanco, represented approximately 3% and 15% of our consolidated accounts receivable at December 31, 2017 and 2016, respectively. No other customer accounted for more than 10% of our consolidated accounts receivable at December 31, 20172022 or 2016.2021.
We have established an allowance for doubtful accountscredit losses based upon factors surrounding the credit risk of specific customers, historical trends and other information.
Accounts Receivable and Allowance for Doubtful Accounts
Accounts receivable are recorded at net realizable value.of an allowance for credit losses. From time to time, our customers are unable to meet their payment obligations. We continuously monitor our customers' credit worthiness and use our judgment in establishing a provisionestablish allowances for estimated credit losses related to our accounts receivable, net investment in leases, contract assets, and promissory notes. Our allowances are established based upon ouron factors surrounding the credit risk of specific customers, historical experience including collections and any specific customerwrite-off history, and current economic conditions. Account balances are considered past due if payments have not been received within agreed upon invoice and/or contract terms and the Company may employ collection issuesagencies and legal counsel to pursue recovery of defaulted amounts. Account balances are written off against the allowance after all collection efforts have been exhausted and it is probable the receivable will not be recovered. The Company also performs a qualitative assessment, on a quarterly basis, to monitor economic factors and other uncertainties that we have identified. may require additional adjustments for the expected credit loss allowance.
While such credit losses have historically been within our expectations and the provisions established, there is no assurance that we will continue to experience the same credit loss rates that we have in the past. A significant change in the liquidity or financial position of our customers could have a material adverse impact on the collectability of accounts receivable and our future operating results.
Changes in the allowance for doubtful accountscredit losses are summarized as follows (in thousands):
| | | | | | | | | | | | | | | | | |
| Years Ended December 31, |
| 2022 | | 2021 | | 2020 |
| Balances at beginning of period | $ | 874 | | | $ | 769 | | | $ | 186 | |
| Additions from acquisitions | — | | | 3 | | | 90 | |
| Additions - charged to expense | 485 | | | 353 | | | 614 | |
| Deductions - write offs, net of recoveries | (214) | | | (248) | | | (121) | |
| Foreign exchange effects | (16) | | (3) | | | — | |
| Balances at end of period | $ | 1,129 | | | $ | 874 | | | $ | 769 | |
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
|
| | | | | | | | | | | |
| | Years Ended December 31, |
| | 2017 | | 2016 | | 2015 |
| Balances at beginning of period | $ | 237 |
| | $ | 189 |
| | $ | 216 |
|
| Additions - charged to expense | 168 |
| | 163 |
| | 83 |
|
| Deductions - write offs, net of recoveries | (190 | ) | | (115 | ) | | (110 | ) |
| Balances at end of period | $ | 215 |
| | $ | 237 |
| | $ | 189 |
|
As discussed in Note 17, Notes Receivable, the Company also recorded an allowance for expected credit losses on our long-term notes receivable. Inherent in the assessment of the allowance are certain judgments and estimates including, among others, the borrower’s access to capital, the borrower’s willingness or ability to pay, general economic conditions and industry default rates, and the ongoing relationship with the borrower.
Cash and Cash Equivalents
Cash and cash equivalents are stated at cost, which approximates market value, and include short-term, highly liquid investments with original maturities of less than three months. We valued our Euro and Japanese Yenforeign cash accounts at the spot market foreign exchange rate as of each balance sheet date, with changes due to foreign exchange fluctuations recorded in current earnings. We held 1,077,787 and 2,778,614 Euros at December 31, 2017 and 2016, respectively. We held 0 and 1,252,221 Yen at December 31, 2017 and 2016, respectively. We held 80,459 and 172,743 Swiss Francs at December 31, 2017 and 2016, respectively. We held 0 and 26,477 Canadian Dollars at December 31, 2017 and 2016, respectively.Accumulated other comprehensive income in the Consolidated Balance Sheets. The majority of our cash and cash equivalents are held at US-based or Swiss-based financial institutions in accounts not insured by governmental entities. The foreign cash balances are summarized as follows (denominated in foreign currency, in thousands):
| | | | | | | | | | | |
| As of December 31, |
| 2022 | | 2021 |
| European Union Euros | 12,497 | | | 5,497 | |
| Swiss Francs | 1,342 | | | 224 | |
| Canadian Dollars | 1,854 | | | 4,191 | |
| GB Pounds | 104 | | | — | |
| Australian Dollars | 564 | | | 676 | |
| Malaysian Ringgit | 1,369 | | | 1,412 | |
Fair Value of Financial Instruments
OurIn accordance with ASC 820, Fair Value Measurements (“ASC 820”), the Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs to the extent possible. The Company determines fair value based on assumptions that market participants would use in pricing an asset or liability in the principal or most advantageous market. Fair value is defined as the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When considering market participant assumptions in fair value measurements, the following fair value hierarchy distinguishes between observable and unobservable inputs, which are categorized in one of the following levels:
Level 1: Quoted market prices in active markets for identical assets or liabilities.
Level 2: Quoted prices in active markets for similar assets and liabilities, quoted prices for identically similar assets or liabilities in markets that are not active and models for which all significant inputs are observable either directly or indirectly.
Level 3: Unobservable inputs reflecting the reporting entity’s own assumptions or external inputs for inactive markets.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
The Company's financial instruments consist of cash, and cash equivalents, short-term trade receivables and payables, a long-term note receivable with an embedded derivative asset, and the Company's revolving line of credit.its 3.75% Convertible Senior Notes due 2026 (the "Notes"). The carrying values of cash and cash equivalents and short-term trade receivables and payables approximate fair value because of the short-term nature of the instruments.
The fair values of our financial instruments at December 31, 2022 and December 31, 2021 were (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Total | | Level 1 | | Level 2 | | Level 3 |
| 2022 | |
| Financial Assets | | | | | | | | |
| Money market fund | | $ | 95,000 | | | $ | 95,000 | | | $ | — | | | $ | — | |
| Convertible note receivable embedded derivative | | 177 | | | — | | | — | | | 177 | |
| | | | | | | | |
| Financial Liabilities | | | | | | | | |
| BiEsseA Contingent Consideration | | 438 | | | — | | | — | | | 438 | |
| Balances, December 31, 2022 | | $ | 95,615 | | | $ | 95,000 | | | $ | — | | | $ | 615 | |
| | | | | | | | |
| 2021 | | Total | | Level 1 | | Level 2 | | Level 3 |
|
| Financial Assets | | | | | | | | |
| Convertible note receivable embedded derivative | | $ | 888 | | | $ | — | | | $ | — | | | $ | 888 | |
| Promissory note receivable embedded derivative | | 337 | | | — | | | — | | | 337 | |
| Financial Liabilities | | | | | | | | |
| BiEsseA Contingent Consideration | | 2,334 | | | — | | | — | | | 2,334 | |
| | | | | | | | |
| Balances, December 31, 2021 | | $ | 3,559 | | | $ | — | | | $ | — | | | $ | 3,559 | |
The Company's financial assets based upon Level 3 inputs include embedded derivatives relating to its notes receivable. The Company determined the redemption features of its convertible note receivable represents an embedded derivative. The estimated fair value of our linethe embedded derivative asset is evaluated through Level 3 inputs using a probability-weighted scenario analysis. The Company determined the warrant associated with its promissory note receivable represents a derivative. The estimated fair value of credit balancethe derivative asset is evaluated through Level 3 inputs, using an enterprise valuation model. For additional information regarding the Company's note receivables and derivatives, refer to Note 17, Notes Receivable.
The estimated based on current rates availablefair value of the Company's 3.75% Convertible Senior Notes due in 2026 (the "Notes"), is disclosed at each reporting period and is evaluated through Level 2 inputs with consideration of quoted market prices in less active markets. For additional information regarding the Company's accounting treatment for the issuance of the Notes, refer to Note 16, Convertible Notes.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
similar debtThe Company's financial liabilities based upon Level 3 inputs include contingent consideration arrangements and notes payable relating to its acquisitions of Lacuna Diagnostics, Inc. ("Lacuna"), BiEsse A-Laboratorio die Analisi Veterinarie S.r.l. (“BSA”), and Biotech Laboratories U.S.A. LLC ("Biotech"). The Company is obligated to pay contingent consideration payments of $2.0 million in connection with similar maturities and collateral, and atthe Lacuna acquisition based on the achievement of certain performance metrics within a twelve month period ("Initial Earn Out Period"), reducing to $1.0 million if such metrics were met in a twelve month period subsequent to the Initial Earn Out Period. The fair value of the Lacuna contingent consideration was $0 as of both December 31, 20172021 and 2016, approximates2022. The Company is obligated to pay contingent consideration payments of $2.7 million in connection with the carryingBSA acquisition based on the achievement of certain revenue metrics within three annual periods after 2021. Refer to Note 3, Acquisitions and Related Party Items for further discussion.
The fair value due primarily to the floating rate of interestour contingent consideration and notes payable arrangements was determined at inception based on such debt instruments.
Inventories
Inventories are stated at the lower of cost or net realizablea probability-weighted outcome analysis. The fair value using the first-in, first-out method. Inventory we manufacture includes the cost of material, labor and overhead. If the cost of inventories exceeds estimated net realizable value, provisions are made to reduce the carrying value to estimated net realizable value.
Inventories, net consist of the contingent consideration and notes payable liabilities associated with future payments were based on several factors, the most significant of which are the financial and product development performance of the acquired businesses. For the contingent consideration liabilities, the Company will update its assumptions each reporting period based on new developments and record such amounts at fair value based on the revised assumptions until the agreements expire. Changes in fair value are recorded in the Consolidated Statements of Loss within general and administrative expenses. The note payable associated with the Biotech acquisition is not adjusted to fair value each period.
The following table presents the changes of our recurring Level 3 assets and liabilities as of December 31, 2022 (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Derivative Assets | | Contingent Consideration Liabilities | | |
| | Convertible note receivable | | Promissory note receivable | | Lacuna | | BiEsseA | | |
| Balances, December 31, 2021 | | $ | 888 | | | $ | 337 | | | $ | — | | | $ | 2,334 | | | |
| | | | | | | | | | |
| | | | | | | | | | |
| Changes in fair value | | (711) | | | (337) | | | — | | | (1,641) | | | |
| Foreign currency impact | | — | | | — | | | — | | | (255) | | | |
| Balances, December 31, 2022 | | $ | 177 | | | $ | — | | | $ | — | | | $ | 438 | | | |
Options Embedded in Non-controlling Interest
In connection with the Biotech acquisition, the Company applied the guidance in ASC 480, Distinguishing Liabilities from Equity, to determine whether the put and call options embedded in shares representing a non-controlling interest represent a liability. If the fixed price of the embedded put and call options are identical at a stated future date, the embedded options and the non-controlling interest are accounted for on a combined basis as a financing arrangement of the purchase of the non-controlling interest and are recorded as a liability at fair value on the reporting date. The Company fully consolidates the subsidiary, including 100 percent of the subsidiary net income or loss, in its Consolidated Statements of Loss.
|
| | | | | | | | |
| | | December 31, |
| | | 2017 | | 2016 |
| Raw materials | | $ | 18,465 |
| | $ | 10,807 |
|
| Work in process | | 4,296 |
| | 3,820 |
|
| Finished goods | | 11,465 |
| | 7,087 |
|
| Allowance for excess or obsolete inventory | | (1,630 | ) | | (1,319 | ) |
| | | $ | 32,596 |
| | $ | 20,395 |
|
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Property and Equipment
Property and equipment is stated at cost, net of accumulated depreciation. The costs of additions and improvements are capitalized, while maintenance and repairs are charged to expense as incurred. When an item is sold or retired, the cost and related accumulated depreciation is relieved and the resulting gain or loss, if any, is recognized in the consolidated statementsConsolidated Statements of income.Loss. We provide for depreciation primarily using the straight-line method by charges to income in amounts that allocate the cost of property and equipment over their estimated useful lives as follows:
|
| | | | |
| Asset Classification | Estimated
Useful Life
|
| Building | 10 to 2043 years |
| Machinery and equipment | 2 to 10 years |
| Office furniture and equipment | 3 to 1513 years |
| Computer hardware and software | 3 to 5 years |
| Leasehold and building improvements | 75 to 1530 years |
We capitalize certain costs incurred in connection with developing or obtaining software designated for internal use based on three distinct stages of development. Qualifying costs incurred during the application development stage, which consist primarily of internal payroll and direct fringe benefits and external direct project costs, including labor and travel, are capitalized and amortized on a straight-line basis over the estimated useful life of the asset, which range from three to five years. Costs incurred during the preliminary project and post-implementation and operation phases are expensed as incurred. These costs are general and administrative in nature and related primarily to the determination of performance requirements, data conversion and training. Costs capitalized in connection with internal-use software were immaterial for the years ended December 31, 2022, 2021, and 2020.
Inventories
Inventories are stated at the lower of cost or net realizable value using the first-in, first-out method. Inventory we manufacture includes the cost of material, labor and overhead. We write down the carrying value of inventory for estimated obsolescence by an amount equal to the difference between the cost of inventory and the estimated market value when warranted based on assumptions of future demand, market conditions, remaining shelf life, or product functionality.
Investments in Unconsolidated Affiliates
Investments in unconsolidated affiliates are measured and recorded as either non-marketable equity securities or equity method investments. Non-marketable equity securities are equity securities without readily determinable fair value that are measured and recorded using a measurement alternative which measures the securities at cost minus impairment, if any, plus or minus changes from qualifying observable price changes. Equity method investments are equity securities in investees we do not control but over which we have the ability to exercise significant influence. When the equity method of accounting is determined to be appropriate, the initial measurement of the investment includes the cost of the investment and all direct transaction costs incurred to acquire the investment. Equity method investments are measured at cost minus impairment, if any, plus or minus our share of equity method investee income or loss, which is recorded as a separate line on the income statement. Both types of investments are evaluated for impairment if a triggering event occurs.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Goodwill, Intangible and Other Long-Lived Assets
Goodwill is initially valued based on the excess of the purchase price of a business combination over the fair value of acquired net assets recognized and represents the future economic benefits arising from other assets acquired that could not be individually identified and separately recognized. Intangible assets other than goodwill are initially valued at fair value. If a quoted price in an active market for the identical asset is not readily available at the measurement date, the fair value of the intangible asset is estimated based on discounted cash flows using market participant assumptions, which are assumptions that are not specific to the Company. The selection of appropriate valuation methodologies and the estimation of discounted cash flows require significant assumptions about the timing and amounts of future cash flows, risks, appropriate discount rates, and the useful lives of intangible assets. When material, we utilize independent valuation experts to advise and assist us in determining the fair values of the identified intangible assets acquired in connection with a business acquisition and in determining appropriate amortization methods and periods for those intangible assets.
We assess goodwill for impairment annually, at the reporting unit level, in the fourth quarter and whenever events or circumstances indicate impairment may exist. In evaluating goodwill for impairment, we have the option to first assess the qualitative factors to determine whether it is more likely than notmore-likely-than-not that the estimated fair value of the reporting unit is less than its carrying amount as a basis for determining whether it
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
is necessary to perform the comparison of the estimated fair value of the reporting unit to the carrying value. The more-likely-than-not threshold is defined as having a likelihood of more than 50 percent. If, after assessing the totality of events or circumstances, we determine that it is it more likely than notmore-likely-than-not that the estimated fair value of a reporting is less than its carrying amount, we would then estimate the fair value of the reporting unit and compare it to the carrying value. If the carrying value exceeds the estimated fair value we would recognize an impairment for the difference; otherwise, no further impairment test would be required. In contrast, we can opt to bypass the qualitative assessment for any reporting unit in any period and proceed directly to quantitative analysis. Doing so does not preclude us from performing the qualitative assessment in any subsequent period. Following the acquisition of scil in April 2020, we restructured our operating segments based on how the Chief Operating Decision Maker (“CODM”) manages the business, allocates resources, makes operating decisions and evaluates operating performance. As further discussed in Note 18, our new reporting segments are North America and International. As a result of the change in operating segments, we also revised our reporting units to aggregate our legal entities based on similarities in economic characteristics.
InAs a result of the fourth quarter of 2017, werecent global economic disruption and uncertainty due to the COVID-19 pandemic, the Company performed a qualitative assessment during the first quarter of 2020. Based on the goodwill residing withininterim assessment performed, we concluded that there was no triggering event and additionally, no indications of impairment existed. We performed qualitative assessments in the assetsfourth quarters of our CCA segment, also determined to be a reporting unit,2021 and 2020 and determined that no indications of impairment existed.
Intangible assets are valued Despite no indication of a triggering event or indications of impairment throughout 2022, in the fourth quarter, we elected to bypass the qualitative approach and instead proceeded directly to assessing the fair value of all of our reporting units and comparing the fair value of each reporting unit to the carrying value to determine if any impairment exists. We estimate the fair values of the reporting units using an income approach based on estimatesdiscounted forecasted cash flows. The income approach involves making significant assumptions about the extent and timing of future cash flows, growth rates and amortized over theirdiscount rates. Model assumptions are based on our projections and best estimates, using appropriate and customary market participant assumptions. Changes in forecasted cash flows or the discount rate would affect the estimated useful lives.fair values of our reporting units and could result in a goodwill impairment loss in a future period. We continually evaluate whether events and circumstances have occurred that indicatealso utilize a market approach utilizing guideline public company method or guideline transaction method, or both.
No goodwill impairment was identified during the remaining estimated useful lifeyear ended December 31, 2022.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
We assess the realizability of intangible assets as well as other long-lived assets may warrant revision,than goodwill whenever events or changes in circumstances indicate that the remaining balance of these assetscarrying value may not be recoverable. When deemed necessary,If an impairment review is triggered, we complete this evaluation by comparingevaluate the carrying amountvalue of theintangible assets with thebased on estimated undiscounted future cash flows associated with them. If such evaluations indicateover the remaining useful life of the primary asset of the asset group and compare that the future undiscounted cash flows of amortizable long-lived assets are not sufficientvalue to recover the carrying value of such assets, the assets are adjusted to their estimated fair values.
asset group. The estimation of useful lives and expected cash flows requires us to make significant judgments regarding future periods that are subject to some factors outside ofused contain our control. Changes in thesebest estimates, can result in significant revisions to ourusing appropriate and customary assumptions and projections at the time. If the net carrying value of thesean intangible asset exceeds the related estimated undiscounted future cash flows, an impairment to adjust the intangible asset to its fair value would be reported as a non-cash charge to earnings. If necessary, we would calculate the fair value of an intangible asset using the present value of the estimated future cash flows to be generated by the intangible asset, and applying a risk-adjusted discount rate. We had a $0.2 million impairment of our intangible assets during the year ended December 31, 2022. We had no impairments of our intangible assets during the years ended December 31, 2021 and may result in material charges to our results of operations.2020.
Revenue Recognition
We generate our revenue through the sale of products, either by outright purchase by our customers or through a subscription agreement whereby our customers receive equipmentinstruments and pay us a monthly fee for the usage of the equipment as well as, when applicable, the consumables needed to conduct testing. Outright sales to customers is the majority of imaging diagnostics transactions, while subscriptionSubscription placement is the majority of our POC laboratory transactions while outright sales to customers are the majority of both POC imaging diagnostic transactions and Pharmaceuticals, Vaccines and Diagnostic ("PVD") revenue.
With the acquisition of VetZ on January 3, 2022, the Company entered the market for veterinary PIMS. Revenue for the sale of software licenses is recognized at a point in time upon delivery of care diagnostics laboratory transactions. We also may recognizethe software. The software has significant stand-alone functionality, and provides the customer with the right to use the intellectual property as it exists at the point in time at which the license is granted. Revenue for support services, cloud-based services, and installation and training is recognized over time as the services are performed. Refer to Note 3 for further details regarding the VetZ acquisition.
For outright sales of products, revenue through licensingis recognized when control of technologythe promised product rights, royalties and sponsored research and development. Our policyor service is transferred to recognize revenue whenour customers, in an amount that reflects the applicable revenue recognition criteria have been met, which generally includeconsideration the following:
Persuasive evidence of an arrangement exists;
Delivery has occurredCompany expects to be entitled to in exchange for those products or services rendered;
Price is fixed or determinable;(the transaction price). Taxes assessed by governmental authorities and
Collectability is reasonably assured.
Revenue collected from the outright salecustomer are excluded from our revenue recognition. A performance obligation is a promise in a contract to transfer a distinct product or service to a customer and is the unit of products to customers is recognized after bothaccount under ASC 606. For instruments, consumables and most software licenses sold by the goods are shippedCompany, control transfers to the customer at a point in time. To indicate the transfer of control, the Company must have a present right to payment, legal title must have passed to the customer, the customer must have the significant risks and rewards of ownership and where acceptance hasis not a formality, the customer must have accepted the product or service. Heska’s principal terms of sale are FOB Shipping Point, or equivalent, and, as such, we primarily transfer control and record revenue for product sales upon shipment. If a performance obligation to the customer with respect to a sales transaction remains unfulfilled following shipment (typically owed installation), revenue recognition for that performance obligation is deferred until such commitments have been received, if required,fulfilled. For extended warranty and service plans, control transfers to the customer over the term of the arrangement and as such the revenue is recognized ratably based upon the period of time elapsed under the arrangement.
The Company may enter into contracts that represent a bill-and hold-arrangement, under which the Company bills a customer for product but retains physical possession of the product until some future point in time. For bill-and-hold arrangements, the Company recognizes revenue when control of the product transfers to the customer in accordance with an appropriate provision for estimated returns and allowances. We do not permit general returns of products sold. Distributor rebates are recorded as a reduction to revenue.the additional criteria in ASC 606-10-55-83.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Revenue fromOur revenue under subscription agreements relates to operating-type lease ("OTL") arrangements or sales-type lease ("STL") arrangements. Classification of an OTL or STL is primarily determined as a result of the length of the contract as compared to the estimated economic life of the instrument, among other factors. Leases are outside of the scope of ASC 606 and are therefore accounted for in accordance with ASC 842, Leases. An STL would result in earlier recognition of instrument revenue as compared to an OTL, which is generally upon installation of the instruments. Instrument lease revenue for our OTL subscription agreements is recognized based on a straight-line basis over the lengthlife of the agreements that are signed by our customers. Among other factors,lease and is included with the length of the agreement determines whether a subscription is considered anpredominant non-lease components in consumables revenue. For instrument only OTL agreements, operating lease or capital lease. Our capital leases qualify for sales-type lease treatment. For subscription agreements that are considered operating leases, we recognize revenue of our subscriptions ratablyincome is recognized on a straight-line basis over the term of the agreement.lease. The equipmentcash collected under both arrangements is transferred from inventory to property, plant and equipment and depreciated into cost of revenue over the term of the agreement,contract. The OTLs and STLs are not cancellable until after an initial term. See below for additional information on our lease accounting policies.
For contracts with both lease and non-lease components, the Company allocates the contracts' transaction price for each component on a relative standalone selling price basis using our best estimate of the standalone selling price of each distinct product or service in the contract. When available, the method used to estimate the standalone selling price is the price observed in standalone sales to customers. When prices in standalone sales are not available, we use a cost-plus margin approach. Changes in these values can impact the amount of consideration allocated to each component of the contract. Allocation of the transaction price is determined at the contracts' inception. The Company does not adjust the transaction price for the effects of a significant financing component when the period between the transfer of the promised good or service to the customer and payment for that good or service by the customer is expected to be one year or less.
To the extent the transaction price includes variable consideration, such as future payments based on consumable usage over time, we apply judgment to determine if the assets’ useful life.variable consideration should be constrained. As the variable consideration is highly susceptible to factors outside of the Company’s influence, and the potential values contain a broad range of possible outcomes given all potential amounts of consumption that could occur, it is likely that a significant revenue reversal would occur should the variable consideration be estimated at an amount greater than the minimum stated amount until such a time as the uncertainty is resolved. For our subscription agreements with variable consideration based on consumable usage over time, the variable consideration is allocated to the non-lease components upon resolution of the uncertainty and is included in consumables revenue.
We generate Other Vaccines and Pharmaceuticals ("OVP") revenue through contract manufacturing agreements with customers. Revenue from subscription agreementsthese customer contracts is generally recognized upon shipment or acceptance by our customer, under the same guidelines noted above for other outright product sales. Heska assessed the over-time criteria within ASC 606 and concluded that are sales-type (capital) leaseswhile products within this segment have no alternative use to Heska, as Heska is recognized, along withcontractually prohibited to redirect the associated cost of the equipment, at theproduct to other customers, Heska does not have right to payment for performance to date. Therefore, point in time of placement in our customer’s location. The amount of revenue recognized at the time of lease inception is based on, along with other factors, observable prior sales prices of similar equipment sold by us over the prior twelve months, relativerecognition has been determined to total contract value. We record a short and long-term capital lease receivable related to sales-type leases.be appropriate.
Revenue from our rentals of digital imaging equipment is recognized ratably over the term of the rental agreement, which is typically over a 26-month period. The equipment is transferred from inventory to property, plant and equipment and depreciated over the assets' useful life.
Recording revenue from the sale of products involves the use of estimates and management's judgment. We must make a determination at the time of sale whether the customer has the ability and intent to make payments in accordance with arrangements. WhileFor contracts with multiple performance obligations, we exercise judgment in allocating the transaction price for each performance obligation based on an estimated standalone selling price for each distinct product or service. We do utilize past payment history,not generally allow return of products or instruments. Distributor rebates are recorded as a reduction to revenue.
Refer to Note 2 for additional disclosures required by ASC 606.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Leases
The Company acts as a lessee and a lessor. As a lessee, the Company leases buildings, office equipment, and vehicles. As a lessor, the Company enters into sales-type and operating leases as part of its subscription agreements.
The Company determines if an arrangement is a lease at inception based on whether control of an identified asset is transferred. For leases where the Company is the lessee, ROU assets represent the Company’s right to use an underlying asset for the extentlease term and lease liabilities represent an obligation to make lease payments arising from the lease. ROU assets and lease liabilities are recognized at the lease commencement date based on the present value of lease payments over the lease term. The measurement of future lease payments includes fixed payments, as well as fixed rate increases that are initially measured at the lease commencement date. Variable lease payments, typically based on the usage of the underlying asset or changes in an index or rate, are excluded from the measurement of ROU assets and lease liabilities and are expensed as incurred.
As most of the Company’s leases do not provide an implicit interest rate, the Company uses its incremental borrowing rate based on the information available for new customers, public credit informationat commencement date in making our assessment,determining the determinationpresent value of whether collectabilitylease payments. The lease terms used to calculate the ROU asset and related lease liability include options to extend or terminate the lease when it is reasonably assuredcertain that the Company will exercise that option. Lease expense for operating leases is ultimatelyrecognized on a judgment decision that must be made by management. We must also make estimates regarding our future obligations relating to returns, rebates, allowances and similar other programs.
License revenue under arrangements to sell or license product rights or technology rightsstraight-line basis over the lease term as an operating expense while the expense for finance leases is recognized as obligations under the agreement are satisfied,amortization expense and interest expense. The Company has lease agreements which generally occurs overrequire payments for lease and non-lease components and has elected to account for these as a period of time. Generally, licensingsingle lease component for our building and office equipment leases, but as separate components for our vehicle leases.
As a lessor, our subscription agreements relate to both OTL arrangements and STL arrangements. For a STL, instrument revenue is deferredgenerally recorded upon installation of the instruments and the cost of the customer-leased instruments is removed from inventory and recognized overin the estimated lifeConsolidated Statements of Loss. There is no residual value taken into consideration as it does not meet our capitalization requirements. There is no option for a lessee to purchase the relatedunderlying asset and the lease term does not include an assumption that the lease will be extended or terminated. For our OTL agreements products, patents or technology. Nonrefundable licensing fees, marketing rights and milestone payments received under contractual arrangements are deferred and recognized over the remaining contractual term using the straight-line method.
Recording revenue from license arrangements involves the use of estimates. The primary estimate made by management is determining the useful life of the related agreement, product, patent or technology. We evaluate all of our licensing arrangements by estimating the useful life of either the product or the technology, the length of the agreement or the legal patent life and defer the revenue for recognition over the appropriate period.
We enter into arrangements that include multiple elements. In these situations, we must determine whether the various elements meet the criteria to be accounted for as separate elements. If the elements cannot be separated,both lease and non-lease components, revenue is recognized once revenue recognition criteria for the entire arrangement have been met oron a straight-line basis over the periodterm of the lease and is included with the predominant non-lease components in consumables revenue. For instrument only OTL agreements, operating lease income is recognized on a straight-line basis over the term of the lease. For an OTL, the costs of customer-leased instruments are recorded within property and equipment in the accompanying Consolidated Balance Sheets and depreciated over the instrument’s estimated useful life. The depreciation expense is reflected in cost of revenue in the accompanying Consolidated Statements of Loss.
For leases that commenced before the Company's obligationsJanuary 1, 2019 effective date of ASC 842, the Company elected the permitted practical expedients to not reassess the customer are fulfilled, as appropriate. Iffollowing: (i) whether any expired or existing contracts contain leases; (ii) the elements are determinedlease classification for any expired or existing leases; and (iii) initial direct costs for any existing leases. The Company also elected to be separable,exclude leases with a term of 12 months or less from the revenue is allocated to the separate elements based on relative fair valuerecognized ROU assets and recognized separately for each element when the applicable revenue recognition criteria have been met. In accounting for these multiple element arrangements, we must make determinations about whether elements can be accounted for separately and make estimates regarding their relative fair values.lease liabilities.
Stock-based Compensation
Stock-based compensation expense is measured at the grant date based upon the estimated fair value of the portion of the award that is ultimately expected to vest and is recognized as expense over the applicable vestingrequisite service period of the award generally using the straight-line method.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Advertising Costs
Advertising costs are expensed as incurred and are included in sales and marketing expenses. Advertising expenses were $0.2 million for each of the years ended December 31, 2017 and 2016, and $0.1$1.4 million for the year ended December 31, 2015.2022, $0.6 million for the year ended December 31, 2021, and $0.4 million for the year ended December 31, 2020.
Income Taxes
The Company records a current provision for income taxes based on estimated amounts payable or refundable on tax returns filed or to be filed each year. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates, in each tax jurisdiction, expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates including the current year impact of the enacted 21% US corporate income tax rate under the Tax Cuts and Jobs Act, is recognized in operations in the period that includes the enactment date. The overall change in deferred tax assets and liabilities for the period measures the deferred tax expense or benefit for the period. Deferred tax assets are reduced by a valuation allowance based on a judgmental assessment of available evidence if the Company is unable to conclude that it is more likely than not that some or all of the deferred tax assets will be realized.
Earnings Per Share
Basic earnings per share is computed by dividing income available to common shareholders by the weighted-average number of shares of common stock outstanding during the period. Diluted earnings per share is computed by dividing income available to common shareholders by the weighted-average number of shares of common stock outstanding during the period increased to include the number of additional shares of common stock that would have been outstanding if the potentially dilutive securities had been issued.
Foreign Currency Translation
The functional currency of our Swiss subsidiarycertain foreign subsidiaries is the Swiss Franc. Assetslocal currency. Accordingly, assets and liabilities of our Swiss subsidiarythese subsidiaries are translated using the exchange rate in effect at the balance sheet date. Revenue and expense accounts and cash flows are translated using an average of exchange rates in effect during the period. Cumulative translation gains and losses are shown in the consolidated balance sheetsConsolidated Balance Sheets as a separate component of stockholders' equity. Exchange gains and losses arising from transactions denominated in foreign currencies (i.e., transaction gains and losses) are recognized as a component of other income (expense) in current operations, as are exchange gains and losses on intercompany transactions expected to be settled in the near term.
Taxes Collected Gains and losses arising from Customers
Inintercompany foreign currency transactions that are of a long-term investment nature are reported as a component of Accumulated other comprehensive income in the course of doing business we collect various taxes from customers including, but not limited to, sales taxes. It is our policy to record revenue net of taxes collected from customers in our consolidated statements of income.
Shipping and Handling Costs
Amounts billed to customers related to shipping and handling are classified as revenue. Shipping and handling costs incurred by us for the delivery of products to customers are classified as cost of revenue.Consolidated Balance Sheets.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Warranty Costs
The Company generally provides for the estimated cost of hardware and software warranties in the period the related revenue is recognized. The Company assesses the adequacy of its accrued warranty liabilities and adjusts the amounts as necessary based on actual experience and changes in future estimates. Should product failure rates differ from our estimates, actual costs could vary significantly from our expectations. Extended warranties are sold to our customers and revenue is recognized over the term of the warranty agreement, as expected costs are incurred.
Adoption of New Accounting Pronouncements
In May 2017,Effective January 1, 2022, we adopted ASU 2021-05, Leases (Topic 842), Lessors- Certain Leases with Variable Lease Payments. This guidance amends the Financial Accounting Standards Board ("FASB") issued ASU 2017-09, “Compensation - Stock Compensation (Topic 718): Scope of Modification Accounting.” ASU 2017-09 was issued to provide claritylease classification accounting for lessors for certain leases with variable lease payments that do not depend on a reference index or a rate and reduce both (1) diversity in practice and (2) cost and complexity when applying the guidance in Topic 718 to a changewould have resulted in the terms or conditionsrecognition of a share-based payment award. ASU 2017-09 provides guidance about which changes to the termsloss at lease commencement if classified as a sale-type or conditions of a share-based payment award require an entity to apply modification accounting under Topic 718. The amendments in ASU 2017-09 are effective for fiscal years, and interim periods within those years, beginning after December 15, 2017. Early adoption is permitted, including adoption in any interim period. The amendments in ASU 2017-09 should be applied prospectively to an award modified on or after the adoption date. Heska adopteddirect financing lease. Under the new guidance, these leases will be classified as an operating lease. We evaluated the impact of the standard on our consolidated financial statements and the adoption of this ASU did not have a material impact on our consolidated financial statements and disclosures.
Effective January 1, 2022, we early adopted ASU 2021-08, Business Combinations (Topic 805), Accounting for Contract Assets and Contract Liabilities from Contracts with Customers. This guidance requires an acquiring entity to recognize and measure contract assets and contract liabilities acquired in its second quartera business combination in accordance with Topic 606. At the acquisition date, the acquirer should account for the related revenue contracts in accordance with Topic 606 as if it had originated the contracts. We evaluated the impact of fiscalthe standard on our consolidated financial statements and the adoption of this ASU did not have a material
impact on our consolidated financial statements and disclosures.
2. REVENUE
We separate our goods and services among two reportable segments, North America and International. The two segments consist of revenue originating from:
•North America: including the United States, Canada and Mexico
•International: all geographies outside North America, currently consisting primarily of Australia, France, Germany, Italy, Malaysia, Spain and Switzerland
Refer to Note 18 for further detail regarding the Company's reportable segments.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
The following table summarizes our segment revenue (in thousands):
| | | | | | | | | | | | | | | | | |
| Year Ended December 31, |
| 2022 | | 2021 | | 2020 |
| North America Revenue: | | | | | |
| POC Lab Instruments & Other | $ | 17,178 | | | $ | 14,837 | | | $ | 13,663 | |
| POC Lab Consumables | 78,302 | | | 72,004 | | | 59,247 | |
| POC Imaging & Informatics | 27,335 | | | 29,512 | | | 20,651 | |
| PVD | 22,020 | | | 24,939 | | | 19,810 | |
| OVP | 16,927 | | | 17,606 | | | 17,695 | |
| Total North America Revenue | $ | 161,762 | | | $ | 158,898 | | | $ | 131,066 | |
| International Revenue: | | | | | |
| POC Lab Instruments & Other | $ | 15,660 | | | $ | 15,001 | | | $ | 7,782 | |
| POC Lab Consumables | 41,205 | | | 46,016 | | | 32,354 | |
| POC Imaging & Informatics | 35,209 | | | 28,492 | | | 22,537 | |
| PVD | 3,471 | | | 5,332 | | | 3,584 | |
| Total International Revenue | $ | 95,545 | | | $ | 94,841 | | | $ | 66,257 | |
| Total Revenue | $ | 257,307 | | | $ | 253,739 | | | $ | 197,323 | |
Remaining Performance Obligations
Remaining performance obligations represent the aggregate transaction price allocated to performance obligations with an original contract term greater than one year 2017.which are fully or partially unsatisfied at the end of the period. Remaining performance obligations include noncancellable purchase orders, the non-lease portion of minimum purchase commitments under long-term supply arrangements, extended warranty, service and other long-term contracts. Remaining performance obligations do not include revenue from contracts with customers with an original term of one year or less, revenue from long-term supply arrangements with no minimum purchase requirements, revenue expected from purchases made in excess of the minimum purchase requirements, or revenue from instruments leased to customers. While the remaining performance obligation disclosure is similar in concept to backlog, the definition of remaining performance obligations excludes leases and contracts that provide the customer with the right to cancel or terminate for convenience with no substantial penalty, even if historical experience indicates the likelihood of cancellation or termination is remote. Additionally, the Company has elected to exclude contracts with customers with an original term of one year or less from remaining performance obligations.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
As of December 31, 2022, the aggregate amount of the transaction price allocated to remaining minimum performance obligations was approximately $219.2 million. As of December 31, 2022, the Company expects to recognize revenue as follows (in thousands):
| | | | | |
| Year Ending December 31, | Revenue |
| 2023 | $ | 51,556 | |
| 2024 | 47,923 | |
| 2025 | 41,660 | |
| 2026 | 36,428 | |
| 2027 | 22,720 | |
| Thereafter | 18,941 | |
| $ | 219,228 | |
Contract Balances
The timing of revenue recognition, billings and cash collections results in billed accounts receivable, unbilled contract assets, deferred revenue, and customer deposits and billings in excess of revenue recognized. In January 2017,addition, the FASB issued ASU 2017-04, “Intangibles - GoodwillCompany defers certain costs incurred to obtain contracts.
Contract Assets
Certain unbilled amounts related to long-term contracts for which we provide a free term to the customer are recorded in Other current assets and Other (Topic 350): Simplifyingnon-current assets on the Accountingaccompanying Consolidated Balance Sheets. The collection of these balances occurs over the term of the underlying contract. The balances as of December 31, 2022 were $1.8 million and $5.9 million for Goodwill Impairment,”current and non-current assets, respectively, shown net of related unearned interest. The balances as of December 31, 2021 were $1.5 million and $5.1 million for current and non-current assets, respectively, shown net of related unearned interest. The increase in contract assets for the twelve-month period ended December 31, 2022 is primarily related to simplifyadditional contract assets recorded for contracts with a free term, partially offset by payments received. The balances as of December 31, 2020 were $1.2 million and $4.1 million for current and non-current assets, respectively, shown net of related unearned interest.
Contract Liabilities
The Company receives cash payments from customers for licensing fees or other arrangements that extend for a specified term. These contract liabilities are classified as either current or long-term in the Consolidated Balance Sheets based on the timing of when the Company expects to recognize revenue. As of December 31, 2022, 2021 and 2020 contract liabilities were $8.3 million, $9.6 million and $9.9 million respectively, and are included within Deferred revenue, current, and other and Deferred revenue, non-current in the accompanying Consolidated Balance Sheets. The decrease in the contract liability balance during the year ended December 31, 2022 is attributable to approximately $10.9 million of revenue recognized during the period and an exchange rate impact of $0.1 million, partially offset by approximately $8.8 million of additional deferred sales in 2022, and the acquisition of VetZ contract liabilities of approximately $0.9 million. The decrease in the contract liability balance during the year ended December 31, 2021 is $6.8 million of revenue recognized during the period, offset by $6.5 million of additional deferred sales. Contract liabilities are reported on the accompanying Consolidated Balance Sheets on a contract-by-contract basis.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Contract Costs
The Company capitalizes certain direct incremental costs incurred to obtain customer contracts, typically sales-related commissions, where the recognition period for the related revenue is greater than one year. Contract costs are classified as current or non-current, and are included in "Other current assets" and "Other non-current assets" in the Consolidated Balance Sheets based on the timing of when the Company expects to recognize the expense. Contract costs are generally amortized into selling and marketing expense with a certain percentage recognized immediately based upon placement of the instrument with the remainder recognized on a straight-line basis (which is consistent with the transfer of control for the related goods or services) over the average term of the underlying contracts, approximately 6 years. Management assesses these costs for impairment at least quarterly on a portfolio basis and as “triggering” events occur that indicate it is more-likely-than-not that an impairment exists. The balances of contract costs as of December 31, 2022, 2021 and 2020 were $5.0 million, $4.1 million and $3.0 million respectively. The increase in contract costs for the year ended December 31, 2022 is due to approximately $2.4 million of additional contract cost capitalization, offset by amortization expense of approximately $1.5 million. In the year ended December 31, 2021, approximately $2.2 million of additional contract costs were capitalized, offset by amortization expense of approximately $1.1 million. Contract costs are calculated and reported on a portfolio basis.
3. ACQUISITION AND RELATED PARTY ITEMS
VetZ Acquisition
On January 3, 2022, the Company acquired 100% of the equity of VetZ, a European leader in veterinary PIMS, for an aggregate purchase price of approximately $35.5 million. The purchase price consisted of approximately $31.6 million in cash as well as contingent consideration as described below. The cash purchase price includes a general indemnity holdback of approximately $1.4 million to be released within 18 months of closing. The cash purchase price was also reduced by a negative net working capital adjustment of approximately $0.6 million.
As additional consideration for the acquisition, the Company agreed to a contingent earn-out of 91,039 shares of Heska stock, with a total value of $15.5 million, which will be issued in tranches based on future financial reporting by eliminating the need to determine theand non-financial milestones. The fair value of individual assetsthe contingent consideration as of the acquisition date was approximately $3.9 million, determined using a Monte-Carlo simulation model. The Company evaluated whether the contingent earn-out should be treated as a liability or equity in accordance with ASC 480, Distinguishing Liabilities from Equity (“ASC 480”), and liabilitiesASC 815, Derivatives and Hedging (“ASC 815”). The contingent earn-out did not meet the ASC 480 definition of a liability as it is not mandatorily redeemable, is not an obligation to repurchase the Company’s shares, and it can only be settled with a fixed number of shares. Additionally, the Company noted the contingent earn-out met the scope exception in ASC 815-10 as the earn-out is indexed to the Company’s own shares, and also met the criteria in ASC 815-40 to be classified in equity as the Company has sufficient authorized and unissued shares, the earn-out has an explicit share limit, there are no required cash payments. As such the contingent earn-out is classified in equity, and is not subsequently remeasured each reporting unit to measure goodwill impairment. Under ASU 2017-04, an entity should perform its goodwill impairment test by comparingperiod. Subsequent settlement of the obligation will be accounted for within equity.
The purchase price exceeded the fair value of the reporting unit with its carrying amount and recognize an impairment chargeidentifiable net assets, resulting in goodwill of $22.0 million, all of which is attributable to our International segment. The goodwill resulting from this acquisition consists of new product offerings from entering the PIMS market. All of the goodwill is tax deductible for the amount bypurposes of calculating Controlled Foreign Corporation tested income, which the carrying amount exceeds the reporting unit’s fair value, upmay result in a decrease to the amount of goodwill allocated to that reporting unit. The new guidance effectively eliminates “Step 2” from the previous goodwill impairment test. ASU 2017-04 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2019. Early adoption is permitted for goodwill impairment tests performed on testing dates after January 1, 2017. Heska adopted the new guidance in its fourth quarter of fiscal year 2017 when it performed its annual goodwill impairment test as of December 15, 2017.
Accounting Pronouncements Not Yet Adopted
In February 2018, the FASB issued ASU 2018-02, “Income Statement-Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income”. The ASU permits companies to elect a reclassification of disproportionateCompany's future U.S. federal tax effects in accumulated other comprehensive income (AOCI) caused by the Tax Cuts and Jobs Act of 2017 to retained earnings. The ASU also requires additional disclosures. This update is effective for fiscal years beginning after December 15, 2018 and interim periods within those fiscal years, with early adoption permitted. We are currently evaluating the effect of this ASU on our consolidated financial statements.
In June 2016, the FASB issued ASU 2016-13, "Financial Instruments – Credit Losses (Topic 326)", which require that financial assets measured at amortized cost be presented at the net amount expected to be collected. The allowance for credit losses is a valuation account that is deducted from the amortized cost basis of the financial asset to present the net carrying value at the amount expected to be collected. The income statement reflects the measurement of credit losses for newly recognized financial assets, as well as the increases or decreases of expected credit losses that have taken place during the period. The measurement of expected credit losses is based upon historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. The amendments in this update areeffective forliability.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
fiscal years beginning after December 15, 2019 and interim periods within those annual periods. Early adoptionThe acquisition was accounted for fiscal year beginning after December 15, 2018 is permitted.
In February 2016, the FASB issued ASU 2016-02, "Leases (Topic 842)", which supersedes ASC 840, Leases, and createsas a new topic, ASC 842, Leases. This update requires lessees to recognize a lease liability and a lease asset for all leases, including operating leases, with a term greater than 12 months on its balance sheet. The update also expands the required quantitative and qualitative disclosures surrounding leases. The accounting for lessors does not fundamentally change except for changes to conform and align guidance to the lessee guidance as well as to the new revenue recognition guidance in ASU 2014-09. This update is effective for fiscal years beginning after December 15, 2018 and interim periods within those fiscal years. This update will be applied using a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. We are currently evaluating the effect of this update on our consolidated financial statements.
In May 2014, the FASB issued ASU 2014-09, “Revenue from Contracts with Customers” and has subsequently issued several supplemental and/or clarifying ASUs (collectively “ASC 606”). ASC 606 prescribes a single common revenue standard that replaces most existing US GAAP revenue recognition guidance. ASC 606 outlines a five-step model, under which Heska will recognize revenue as performance obligations within a customer contract are satisfied. ASC 606 is intended to provide more consistent interpretation and application of the principles outlined in the standard across filers in multiple industries and within the same industries compared to current practices, which should improve comparability. Along with the issuance of ASC 606, additional cost guidance was issued and codified under ASC 340-40 that outlines the requirement for capitalizing incremental costs of obtaining a contract and costs to fulfill a contract that meet certain capitalization criteria.
Adoption of ASC 606 is required for annual reporting periods beginning after December 15, 2017, including interim periods within the reporting period. Upon adoption, Heska must elect to adopt either retrospectively to each prior reporting period presented (full retrospective method) or using the cumulative effect transition method with the cumulative effect of initial adoption recognized at the date of initial application (modified retrospective method). Heska has elected to adopt the modified retrospective method and apply this method to contracts not yet completed as of January 1, 2018. The cumulative effect of initially applying the new revenue standard is recognized as an adjustment to the opening balance of our fiscal year 2018 retained earnings. The comparative information will not be recast and will continue to be reported under the accounting standards in effect for those periods.
Heska assessed the impact that the adoption of ASC 606 is expected to have on its Consolidated Financial Statements by analyzing its current portfolio of customer contracts and various revenue streams, including a review of historical accounting policies and practices to identify potential differences in applying the guidance of ASC 606. Heska also performed a comprehensive review of its current processes and systems to determine and implement changes required to support the adoption of ASC 606 on January 1, 2018.
Based on review of customer contracts within our Core Companion Animal ("CCA") segment, Heska has determined the timing of revenue recognition of our product sales, which includes upfront equipment sales and sales of consumables, will continue to be recognized as it is currently, generally upon shipment of products. Also included within CCA are our subscription agreements, which contain a lease of equipment, for which rental income will continue to be recognized under ASC 840, Leases, unless the equipment is considered a sales-type lease, which revenue will be recognized under ASC 606 at the point of sale.
Based on review of customer contracts within our Other Vaccines, Pharmaceuticals, and Products segment, Heska has determined that the timing of revenue recognition of our customer contracts will continue
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
to be recognized as it is currently - generally upon shipment or acceptance by our customer. Heska assessed the over-time criteria within ASC 606 and concluded that because products within this segment have no alternative use to Heska as Heska is contractually prohibited to redirect the product to other customers, Heska does not have right to payment for performance to date and therefore, point in time recognition is appropriate.
Often our contracts contain multiple performance obligations to which the transaction price must be allocated. The objective when allocating the transaction price is to allocate the transaction price to each performance obligation (or distinct good or service) in an amount that depicts the consideration to which the entity expects to be entitled in exchange for transferring the promised goods or services to the customer. To accomplish this objective, Heska will allocate transaction price on a relative standalone selling price basis (SSP) and where SSP is not readily observable, Heska will generally utilize expected cost-plus-a-margin approach. All of the individual performance obligations, including equipment, consumables, and services are sold separately, and therefore, observable prices are available.
Because a significant number of Heska’s customers are under noncancelable contracts for periods extending beyond one year with the delivery of goods and services occurring throughout the duration, Heska anticipates recording an asset related to the prepayment of such contract acquisition costs. In addition, ASC 606 states that "an asset recognizedbusiness combination in accordance with ASC 805, Business Combinations. As such, the incremental costs of obtaining a contract shall be amortized on a systematic basis that is consistent with the transfertotal purchase consideration was allocated to the customer of the goods or services to which the asset relates." Because a significant number of Heska’s customers are under noncancelable contracts for periods extending beyond one year with the delivery of goods and services occurring throughout the duration, Heska anticipates recording an asset related to the prepayment of such contract acquisition costs.
We expect the impact of the adoption of the new standard will result in an adjustment to the recognition of software support revenue, which historically has been a separate element however this has been deemed to be an immaterial promise and therefore, previously deferred revenue relating to software support will be recognized at point of sale along with the equipment and embedded software. The adoption of the new standard will also impact the recognition of sales commissions. Previously, sales commissions were expensed when the underlying contract was executed, which will now be recognized as a cost to acquire a contract and amortized over its useful life. Finally, the new standard will impact the recognition of revenue associated with certain bill and hold arrangements. Previously, we deferred revenue recognition until shipment, which will now be recognized upon customer acceptance. We are finalizing the quantitative impact of these changes.
2. ACQUISITION AND RELATED PARTY ITEMS
Cuattro Veterinary, LLC
On May 31, 2016, the Company closed a transaction (the "Merger") to acquire Cuattro Veterinary, LLC ("Cuattro International") from Kevin S. Wilson, and all of the members of Cuattro International (the "Members"). Pursuant to the Merger, the Company issued 175,000 shares of the Company’s common stock, $0.01 par value per share (the "Common Stock"), to the Members on the Closing Date, at an aggregate value equal to approximately $6.3 million based on the adjusted closing price per share of the Common Stock as reported on the Nasdaq Stock Market on the Merger closing date. These shares were issued to the Members in a private placement in reliance upon an exemption from the registration requirements of the Securities Act of 1933, as amended, pursuant to Section 4(a)(2) thereof and the safe harbor provided by Rule 506 of Regulation D promulgated thereunder. Effective on the Merger closing date, each of the Members executed lock-up agreements with the Company that restricted their ability to sell any of the shares of Common Stock received in the Merger until 180 days after the Merger closing date. In addition, the Company assumed approximately $1.5 million in debt as part of the transaction.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Mr. Wilson is a founder of Cuattro International, Cuattro, LLC, Cuattro Software, LLC and Cuattro Medical, LLC. Mr. Wilson, Mrs. Wilson and trusts for the benefit of Mr. and Mrs. Wilson’s children and family own a 100% interest in Cuattro, LLC and a majority interest in Cuattro Medical, LLC. Cuattro, LLC owns a 100% interest in Cuattro Software, LLC and, prior to the Merger, owned a majority interest in Cuattro International.
The Company recorded assets acquired and liabilities assumed at their estimated fair values. Intangible assets were valued based on a report from an independent third party.their fair values as of January 3, 2022. The goodwill associated with the acquisitiontotal purchase consideration is the result of expected synergies and expansion of the technology into additional markets.subject to customary working capital adjustments.
The following summarizes the aggregate consideration paid by the Company and the allocation ofinformation below represents the purchase price allocation as of the acquisition date (in thousands):
| | | | | |
| January 3, 2022 |
| Purchase price in cash | $ | 31,627 | |
| Fair value of equity contingent consideration | 3,860 | |
| Total purchase consideration | $ | 35,487 | |
| |
| Cash and cash equivalents | $ | 1,251 | |
| Inventory | 359 | |
| Accounts receivable | 824 | |
| Prepaid expenses and other assets | 318 | |
| Property and equipment, net | 602 | |
| Operating lease right-of-use assets | 2,962 | |
| Intangible assets | 18,504 | |
| Total assets acquired | 24,820 | |
| Accounts payable | 520 | |
| Accrued liabilities | 1,260 | |
| Operating lease liabilities, current | 247 | |
| Deferred revenue, current, and other | 1,014 | |
| Operating lease liabilities, non-current | 2,714 | |
| Deferred tax liabilities | 5,246 | |
| Other liabilities | 318 | |
| Net assets acquired | 13,501 | |
| Goodwill | 21,986 | |
| Total fair value of consideration transferred | $ | 35,487 | |
|
| | | |
| Common stock issued - 175,000 shares | $ | 6,347 |
|
| Debt assumed | 1,535 |
|
| Total fair value of consideration transferred | $ | 7,882 |
|
During the year ended December 31, 2022, the Company made certain valuation adjustments to provisional amounts previously recognized. These measurement period adjustments resulted in a net $584 thousand decrease of goodwill, primarily due to fair value adjustments and a change in municipality tax rate resulting in an increase in net identifiable assets acquired. The Company finalized the accounting for the VetZ acquisition in the fourth quarter of 2022. |
| | | |
| Accounts receivable | $ | 222 |
|
| Inventories | 39 |
|
| Due from Cuattro, LLC | 963 |
|
| Property and equipment | 80 |
|
| Other tangible assets | 164 |
|
| Deferred tax asset | 56 |
|
| Intangible assets | 2,521 |
|
| Goodwill | 5,783 |
|
| Accounts payable | (112 | ) |
| Deferred tax liability | (905 | ) |
| Other assumed liabilities | (929 | ) |
| Total fair value of consideration transferred | $ | 7,882 |
|
Intangible assets acquired, amortization method and estimated useful liveslife as of MayJanuary 3, 2022, were as follows (dollars in thousands):
| | | | | | | | | | | | | | | | | |
| Weighted- Average Useful Life | | Amortization
Method | | Fair Value |
| Customer relationships | 12 years | | Straight-line | | $ | 12,941 | |
| Trade name | 8 years | | Straight-line | | 1,816 | |
| Developed technology | 4.3 years | | Straight-line | | 3,747 | |
| Total intangible assets acquired | | | | | $ | 18,504 | |
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
VetZ generated net revenue of $12.2 million and a net loss of $1.5 million for the period from January 3, 2022 to December 31, 20162022.
The Company incurred acquisition related costs of approximately $0.7 million and $0.6 million for the twelve months ended December 31, 2022 and 2021, respectively, which are included within general and administrative expenses on our Consolidated Statements of Loss.
Unaudited Pro Forma Financial Information
The following table presents unaudited supplemental pro forma financial information as if the acquisition had occurred on January 1, 2021 (in thousands):
| | | | | | | | | | | |
| Year Ended December 31, |
| 2022 | | 2021 |
| Revenue, net | $ | 257,307 | | | $ | 265,093 | |
| Net (loss) income before equity in losses of unconsolidated affiliates | $ | (18,424) | | | $ | 940 | |
| Net loss attributable to Heska Corporation | $ | (19,889) | | | $ | (340) | |
Biotech Acquisition
On September 1, 2021, Heska acquired 65% of the equity of Biotech Laboratories U.S.A. LLC ("Biotech"), a developer of rapid assay diagnostic testing, in exchange for approximately $16.3 million in cash. As part of the purchase, Heska entered into put and call options in order to purchase the remaining 35% ownership in future years. The counterparty, Chinta Lamichhane, DVM, Ph.D, maintains an interest in Biotech and is an employee of the Company, thus commencing a related party relationship. Aside from the acquisition described herein, there were no financial or non-financial transactions between the Company and the counterparty.
In conjunction with the acquisition, the Company entered into various put and call options which are classified on the Consolidated Balance Sheets as Notes payable. The Company is obligated to pay contingent notes of up to $17.5 million based on the achievement of certain product development milestones or at a predetermined date in the future. The written put options can be exercised after June 30, 2024, at a valuation identical to the initial purchase price. The written call options can be exercised at any time prior to June 30, 2026, at an amount equal to two times the initial valuation or after June 30, 2026, at a valuation identical to the initial purchase price. Additionally, if certain product development milestones are met, the shares may be bought in various tranches at two times the initial valuation. The Company evaluated the put and call options embedded in the shares representing the non-controlling interest under the guidance in ASC 480, Distinguishing Liabilities from Equity, and determined the instrument met the criteria to be recorded as a liability because the fixed price of the put and call options are identical starting after June 30, 2026. As a result, the Company recorded the transaction as a financing arrangement of the purchase of the non-controlling interest, and will record 100% of the income and loss of Biotech in our Consolidated Statements of Loss. The options were not redeemable as of the acquisition date. As of the period ending December 31, 2022, two of the product development milestones were achieved. During the year ended December 31, 2022, the Company made payments of $5.3 million. $4.8 million was a reduction to Notes payable and $0.5 million was recorded to interest expense. The Company acquired an additional 10.50% interest for a majority interest ownership of 75.50%. The counterparty owns the remaining minority interest of 24.50%. The estimated fair value of the Notes Payable as of the acquisition date of $15.9 million is inclusive of the probability weighted outcomes of the options described herein and was determined using Level 3 inputs. As of the period ending December 31, 2022, the remaining value of the Notes Payable is $11.1 million.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
The total purchase consideration exceeded the fair value of the identifiable net assets acquired, resulting in goodwill of $25.8 million, all of which is attributable to our North America segment and primarily consists of opportunities to expand product offerings and the experienced workforce acquired. In connection with the acquisition and pursuant to the elections under Section 754 of the Internal Revenue Code, the Company expects to obtain an increase with respect to the tax basis in the assets of Biotech.
The acquisition was accounted for as a business combination in accordance with ASC 805, Business Combinations. As such, the total purchase consideration was allocated to the assets acquired and liabilities assumed based on their fair values as of September 1, 2021. The total purchase consideration is subject to customary working capital adjustments, which were finalized as of September 1, 2022.
The information below represents the purchase price allocation as of the acquisition date (in thousands):
| | | | | |
| September 1, 2021 |
| Purchase price in cash | $ | 16,250 | |
| Notes payable | 15,900 | |
| Total purchase consideration | $ | 32,150 | |
| |
| Accounts receivables | $ | 18 | |
| Other current assets | 1 | |
| Inventories | 190 | |
| Property and equipment, net | 148 | |
| Operating lease right-of-use assets | 1,033 | |
| Other intangible assets, net | 6,000 | |
| Other non-current assets | 15 | |
| Total assets acquired | 7,405 | |
| Accounts payable | 11 | |
| Accrued liabilities | 33 | |
| Operating lease liabilities, current | 188 | |
| Operating lease liabilities, non-current | 845 | |
| Net assets acquired | 6,328 | |
| Goodwill | 25,822 | |
| Total fair value of consideration transferred | $ | 32,150 | |
Intangible assets acquired, amortization method and estimated useful life as of September 1, 2021, was as follows (dollars in thousands): |
| | | | | |
| | Useful Life | | Amortization Method | | Fair Value |
| Customer relationships | 6.67 | | Straight-line | | $2,521 |
Cuattro International is a provider to international markets of digital radiography technologies for veterinarians. As a leading provider of advanced veterinary diagnostic and specialty products, we made the acquisition in an effort to combine Cuattro International's international reach with our domestic success in the imaging and point of care laboratory markets in the United States. International markets represent a significant portion of worldwide veterinary revenues for which we intend to compete.
As of the closing date of the Merger, Cuattro International was renamed Heska Imaging International, LLC, and the Company's interest in both Heska Imaging International, LLC ("International Imaging") and | | | | | | | | | | | | | | | | | |
| Useful Life | | Amortization
Method | | Fair Value |
| Developed technology | 6 years | | Straight-line | | $ | 6,000 | |
| Total intangible assets acquired | | | | | $ | 6,000 | |
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Heska Imaging US, LLC ("US Imaging") was transferred to the Company's wholly-owned subsidiary, Heska Imaging Global, LLC ("Global Imaging").
Cuattro Veterinary USA, LLC
On February 24, 2013, theThe Company acquired a 54.6% interest in Cuattro Veterinary USA, LLC (the "Acquisition"), which was subsequently renamed Heska Imaging US, LLC ("US Imaging"). The remaining minority position (45.4)% in US Imaging was subject to purchase by Heska under performance-based puts and calls following the auditincurred acquisition related costs of our financial statements for 2016 and 2017. The required performance criteria were met in 2016, we considered notice given on March 3, 2017 that the put option was being exercised and on May 31, 2017, we delivered $13.8 million in cash to obtain the remaining minority position in US Imaging.
Prior to the purchase of the minority position (the "Imaging Minority"), Shawna M. Wilson, Clint Roth, DVM, Steven M. Asakowicz, Rodney A. Lippincott, Kevin S. Wilson and Cuattro, LLC owned approximately 29.75%, 8.39%, 4.09%, 3.07%, 0.05% and 0.05% of US Imaging, respectively. Kevin S. Wilson is the Chief Executive Officer and President of the Company and the spouse of Shawna M. Wilson. Steven M. Asakowicz serves as Executive Vice President, Companion Animal Health Sales for the Company. Rodney A. Lippincott serves as Executive Vice President, Companion Animal Health Sales for the Company. On April 3, 2017, and in accordance with the terms of its Operating Agreement, US Imaging distributed $2.1 million based on past operating performance, including $1.0 million to its minority interest members. As of December 31, 2017, US Imaging accrued an additional $0.3 million distribution, including $0.1 million to its minority interest members.
On June 1, 2017, the Company consolidated its assets and liabilities in the US Imaging and International Imaging companies into Global Imaging, which was re-named Heska Imaging, LLC ("Heska Imaging").
Related Party Activities
Cuattro, LLC charged Heska Imaging $17.7 million, $14.5 million, and $9.0 million during 2017, 2016, and 2015, respectively, primarily related to digital imaging products, for which there is an underlying supply contract with minimum purchase obligations, software and services as well as other operating expenses. Heska Corporation charged Cuattro, LLC $0.1 million, $0.2 million, and $0.2 million in the years ended December 31, 2017, 2016, and 2015, respectively, primarily related to facility usage and other services.
Heska Corporation had a receivable from Cuattro, LLC of $1$0.6 thousand and $22 thousand as of December 31, 2017 and 2016, respectively which is included in "Due from - related parties" on the Company's consolidated balance sheet. Heska Imaging had a receivable from Cuattro, LLC of $0 thousand and $78 thousand as of December 31, 2017 and 2016, respectively. Heska Imaging owed Cuattro $1.7 million as of December 31, 2017, and Global Imaging owed Cuattro $1.6 million as of December 31, 2016, which is included in "Due to- related parties" on the Company's consolidated balance sheets.
Heska Corporation charged US Imaging $2.9 million from January 1, 2017 to May 31, 2017, prior to the acquisition of the minority interest, and $5.3 million and $4.9$0.4 million for the years ended December 31, 2016,2022 and 2015,2021, respectively, which are included within general and administrative expenses on our Consolidated Statements of Loss.
Pro forma financial information related to the acquisition of Biotech has not been provided as it is not material to our consolidated results of operations.
BiEsseA Acquisition
On July 1, 2021, the Company completed the acquisition of BiEsse A-Laboratorio die Analisi Veterinarie S.r.l. (“BSA”). The Company acquired 100% of the issued and outstanding shares of BSA for salesan aggregate purchase price of $7.2 million, consisting of $4.8 million in cash and other administrative related expenses. Atcontingent consideration described below. On January 1, 2022, BSA was merged into scil animal care company Srl, a wholly owned subsidiary of scil animal care company GmbH ("scil").
As additional consideration for the shares, the Company agreed to a contingent earn-out of an additional $2.7 million based on the achievement of certain performance metrics within three annual periods after 2021, each of which can pay up to one third of the total earn-out. The fair value of the contingent consideration was $2.3 million as of the acquisition date and as of December 31, 2016, US Imaging had a $1.62021, and subsequently decreased to $0.4 million note receivable, including accrued interest,as of December 31, 2022.
The total purchase consideration exceeded the fair value of the identifiable net assets acquired, resulting in $4.6 million of goodwill, all of which is attributable to our International segment. The goodwill resulting from International Imaging, which was due on June 15, 2019 and which eliminated in consolidationthis acquisition consists largely of the Company's financial statements.expected future product sales and synergies from combining operations. All of the goodwill is tax deductible for purposes of calculating Controlled Foreign Corporation tested income, which may result in a decrease to the Company's future U.S. federal income tax liability.
The acquisition was accounted for as a business combination in accordance with ASC 805, Business Combinations. As such, the total purchase consideration was allocated to the assets acquired and liabilities assumed based on their fair values as of July 1, 2021. The total purchase consideration is subject to customary working capital adjustments, which were finalized as of December 31, 2021.
Per the tax indemnification included in the purchase agreement of BSA, the seller has indemnified the Company for $0.5 million related to uncertain tax positions taken in prior years. The outcome of this arrangement will either be settled or expire due to lapse of statute of limitations by 2025. As of June 1, 2017, theDecember 31, 2022, approximately $0.3 million remaining balance of the note was eliminated in the consolidation of the imaging companies into Heska Imaging. At December 31, 2016, Heska Corporation had accounts receivable from US Imaging of $5.6 million, including accrued interest, and Global Imaging had net prepaid receivablesindemnification agreement remains outstanding.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
from US Imaging of $1.2 million, all of which eliminated in consolidationThe information below represents the purchase price allocation as of the acquisition date (in thousands):
| | | | | |
| July 1, 2021 |
| Purchase price in cash | $ | 4,835 | |
| Fair value of contingent consideration | 2,334 | |
| Total purchase consideration | $ | 7,169 | |
| |
| Cash and cash equivalents | $ | 322 | |
| Accounts receivables | 152 | |
| Other receivables | 497 | |
| Prepaid expenses | 8 | |
| Other current assets | 275 | |
| Property and equipment, net | 89 | |
| Operating lease right-of-use assets | 44 | |
| Other intangible assets, net | 3,329 | |
| Total assets acquired | 4,716 | |
| Accounts payable | 208 | |
| Accrued liabilities | 334 | |
| Operating lease liabilities, current | 37 | |
| Deferred revenue, current, and other | 85 | |
| Operating lease liabilities, non-current | 20 | |
| Deferred tax liability, net | 925 | |
| Other liabilities | 500 | |
| Net assets acquired | 2,607 | |
| Goodwill | 4,562 | |
| Total fair value of consideration transferred | $ | 7,169 | |
Intangible assets acquired, amortization method and estimated useful life as of July 1, 2021, was as follows (dollars in thousands): | | | | | | | | | | | | | | | | | |
| Useful Life | | Amortization Method | | Fair Value |
| Customer relationships | 14 years | | Straight-line | | $ | 3,329 | |
| Total intangible assets acquired | | | | | $ | 3,329 | |
The Company incurred acquisition related costs of approximately $0 and $0.3 million for the years ended December 31, 2022 and 2021, respectively, which are included within general and administrative expenses on our Consolidated Statements of Loss.
Pro forma financial information related to the acquisition of BSA has not been provided as it is not material to our consolidated results of operations.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Lacuna Acquisition
On February 1, 2021, the Company completed the acquisition of Lacuna Diagnostics, Inc. ("Lacuna"), a veterinary digital cytology company, to broaden the Company's financial statements.
3. INCOME TAXES
Income Taxes
POC diagnostic offerings. The Company acquired 100% of the issued and outstanding shares of Lacuna for a purchase price of $4.3 million. The Company then dissolved Lacuna on February 1, 2021. In accordance with the purchase agreement, the Company is required to hold a $0.4 million general indemnity holdback that is intended to provide a non-exclusive source of funds for the payment of any losses identified and shall be released within 18 months of closing. $0.3 million and $0.1 million of the indemnification holdback was released for licensing fees during the twelve months ended December 31, 2022 and 2021, respectively. As of December 31, 2017,2022, $0.0 million of the indemnification holdback remains outstanding.
As additional consideration for the shares, the Company hadagreed to a domestic federalcontingent earn-out of an additional $2.0 million based on the achievement of certain performance metrics within a twelve month period ("Initial Earn Out Period"), reducing to $1.0 million if such metrics were met in a twelve month period subsequent to the Initial Earn Out Period. The fair value of the contingent consideration as of the acquisition date was $1.7 million, and subsequently decreased to $0 as of December 31, 2022 and 2021, which resulted in a $1.7 million gain included within general and administrative expenses in the Consolidated Statement of Loss for the year ended December 31, 2021.
The total purchase consideration exceeded the fair value of the identifiable net operating loss carryforward ("NOL"),assets acquired, resulting in $4.2 million of goodwill, primarily related to expanded opportunities with our offerings. All of the goodwill is allocated to the North America segment and is not tax deductible for income tax purposes.
The acquisition was accounted for as a business combination in accordance with ASC 805, Business Combinations. As such, the total purchase consideration was allocated to the assets acquired and liabilities assumed based on their fair values as of February 1, 2021. The total purchase consideration is subject to customary working capital adjustments, which were finalized as of February 1, 2022.
The information below represents the purchase price allocation as of the acquisition date (in thousands):
| | | | | |
| February 1, 2021 |
| Purchase price in cash | $ | 4,255 | |
| Fair value of contingent consideration | 1,700 | |
| Total purchase consideration | $ | 5,955 | |
| |
| Cash and cash equivalents | $ | 3 | |
| Accounts receivable | 170 | |
| Property and equipment, net | 530 | |
| Other intangible assets, net | 1,185 | |
| Total assets acquired | 1,888 | |
| Deferred tax liability | 133 | |
| Net assets acquired | 1,755 | |
| Goodwill | 4,200 | |
| Total fair value of consideration transferred | $ | 5,955 | |
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Intangible assets acquired, amortization method and estimated useful life as of February 1, 2021, was as follows (dollars in thousands): | | | | | | | | | | | | | | | | | |
| Useful Life | | Amortization
Method | | Fair Value |
| Developed technology | 3 years | | Straight-line | | $ | 1,000 | |
| Customer relationships | 6 months | | Straight-line | | 150 | |
| Trade name | 11 months | | Straight-line | | 35 | |
| Total intangible assets acquired | | | | | $ | 1,185 | |
The Company incurred acquisition related costs of approximately $94.0$0 and $0.1 million for the years ended December 31, 2022 and 2021, respectively, which are included within general and administrative expenses on our Consolidated Statements of Loss.
Pro forma financial information related to the acquisition of Lacuna has not been provided as it is not material to our consolidated results of operations.
scil Acquisition
On April 1, 2020, the Company completed the acquisition of scil animal care company GmbH (“scil”) from Covetrus, Inc. The Company purchased 100% of the capital stock of scil for an aggregate purchase price of $110.3 million in cash. The acquisition represents a key milestone in the Company's long-term strategic plan, creating a global veterinary diagnostics company with leadership positions in key geographic markets. The purchase price exceeded the identifiable net assets, resulting in goodwill of $46.0 million, primarily attributable to the synergies expected from the expanded market opportunities with our offerings and the experienced workforce acquired. Of the goodwill acquired, $37.3 million is allocated to our International segment and $8.7 million is allocated to our North America segment. All of the goodwill is tax deductible for purposes of calculating Controlled Foreign Corporation ("CFC") tested income, which may result in a decrease to the Company's future U.S. federal tax liability.
The acquisition was accounted for using the acquisition method of accounting in accordance with ASC 805, Business Combinations, which requires, among other things, that assets acquired and liabilities assumed be recognized at their fair values as of the acquisition date. As such, the total purchase consideration was allocated to the assets acquired and liabilities assumed based on a preliminary estimate of their fair values as of April 1, 2020. The Company finalized the accounting for the acquisition as of March 31, 2021.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
The information below represents the final purchase price allocation of scil (in thousands):
| | | | | |
| April 1, 2020 |
| Total purchase consideration | $ | 110,290 | |
| |
| Cash and cash equivalents | $ | 5,889 | |
| Accounts receivable | 10,707 | |
| Inventories | 11,278 | |
| Net investment in leases, current | 311 | |
| Prepaid expenses | 1,692 | |
| Other current assets | 1,338 | |
| Property and equipment, net | 19,320 | |
| Operating lease right-of-use assets | 877 | |
| Other intangible assets, net | 44,517 | |
| Net investment in leases, non-current | 1,027 | |
| Investments in unconsolidated affiliates | 55 | |
| Other non-current assets | 291 | |
| Total assets acquired | 97,302 | |
| Accounts payable | 8,221 | |
| Accrued liabilities | 7,067 | |
| Operating lease liabilities, current | 356 | |
| Deferred revenue, current, and other | 3,220 | |
| Deferred revenue, non-current | 94 | |
| Operating lease liabilities, non-current | 529 | |
| Deferred tax liability | 13,249 | |
| Other liabilities | 276 | |
| Net assets acquired | 64,290 | |
| Goodwill | 46,000 | |
| Total fair value of consideration transferred | $ | 110,290 | |
Per the tax indemnification included in the purchase agreement of scil, the seller has indemnified the Company for $1.1 million related to uncertain tax positions taken in prior years. The outcome of this arrangement will either be settled or expire due to lapse of statute of limitations by 2027. As of December 31, 2022, approximately $0.1 million of the indemnification agreement remains outstanding.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Intangible assets acquired, amortization method and estimated useful life as of April 1, 2020, was as follows (dollars in thousands):
| | | | | | | | | | | | | | | | | |
| Useful Life | | Amortization Method | | Fair Value |
| Customer relationships | 10 years | | Straight-line | | $ | 36,272 | |
| Internally developed software | 7 years | | Straight-line | | 353 |
| Backlog | 0.2 years | | Straight-line | | 210 |
| Non-compete agreements | 2 years | | Straight-line | | 60 |
| Trade name subject to amortization | 0.8 years | | Straight-line | | 66 |
| Trademarks and trade names not subject to amortization | n/a | | Indefinite | | 7,556 |
| Total intangible assets acquired | | | | | $ | 44,517 | |
scil generated net revenue of $61.3 million and a domesticnet loss of $1.1 million for the period from April 1, 2020 to December 31, 2020.
The Company incurred acquisition related costs of approximately $0, $0 and $6.3 million for the years ended December 31, 2022, 2021 and 2020, respectively, which are included within general and administrative expenses on our Consolidated Statements of Loss.
Unaudited Pro Forma Financial Information
The following tables present unaudited supplemental pro forma financial information as if the acquisition had occurred on January 1, 2020 (in thousands): | | | | | | | | | |
| Year Ended |
| December 31, 2020 | | |
| Revenue, net | $ | 215,874 | | | |
| Net loss before equity in losses of unconsolidated affiliates | $ | (14,848) | | | |
| Net loss attributable to Heska Corporation | $ | (15,215) | | | |
The pro forma financial information presented above has been prepared by combining our historical results and the historical results of scil and further reflects the effect of purchase accounting adjustments, including: (i) amortization of acquired intangible assets, (ii) the impact of certain fair value adjustments such as depreciation on the acquired property, plant and equipment, and (iii) historical intercompany sales between the Company and scil. The unaudited pro forma results are presented for informational purposes only and are not necessarily indicative of what actual results of operations would have been if the acquisition had occurred as the beginning of the period presented, nor are they indicative of future results of operations.
Other Related Party Activities
In connection with the VetZ acquisition, the Company entered into a related party building lease agreement with the former owners, who are now employees of the Company. The Company recorded operating lease expense of $284 thousand related to this lease for the twelve months ended December 31, 2022. The right-of-use asset and lease liability related to the building lease were approximately $2.3 million and $2.3 million as of December 31, 2022, respectively.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Prior to the closing of the VetZ acquisition, the former owners who are now employees of the Company purchased vehicles and bicycles from VetZ. As of January 3, 2022, a receivable of approximately $165 thousand was included in the preliminary purchase price allocation related to these transactions. These receivables were settled in full on January 7, 2022.
4. INVESTMENTS IN UNCONSOLIDATED AFFILIATES
The carrying values of investments in unconsolidated affiliates, categorized by type of investment, is as follows (in thousands): | | | | | | | | | | | |
| December 31, 2022 | | December 31, 2021 |
| Equity method investment | $ | 941 | | | $ | 2,406 | |
| Non-marketable equity security investment | 3,018 | | | 3,018 | |
| Investment in Unconsolidated Affiliates | $ | 3,959 | | | $ | 5,424 | |
Equity Method Investment
On September 24, 2018, we invested approximately $5.1 million, including costs, to acquire an equity interest in a business as part of our product development strategy. As of December 31, 2022, our ownership interest in the business was 26.0%. In connection with the investment, the Company entered into a Manufacturing Supply Agreement that grants the Company global exclusivity to specified products to be delivered under the agreement for a 15-year period that begins upon the Company's receipt and acceptance of an initial order under the agreement. The Company accounts for this investment using the equity method of accounting. Under the equity method, the carrying value of the investment is adjusted for the Company's proportionate share of the investee's reported earnings or losses with the corresponding share of earnings or losses reported as Equity in losses of unconsolidated affiliates, listed below Net income before equity in losses of unconsolidated affiliates within the Consolidated Statements of Loss. The Company has a note receivable from the equity method investee. Refer to Note 17, Notes Receivable, for additional details.
Non-Marketable Equity Security Investment
On August 8, 2018, the Company invested approximately $3.0 million, including costs, in exchange for preferred stock of LightDeck. The Company's investment is a non-marketable equity security, recorded using the measurement alternative of cost minus impairment, if any, plus or minus changes resulting from qualifying observable price changes.
As part of the agreement, the Company entered into a Supply and License Agreement, which provides that the LightDeck produce and commercialize products that will enhance the Company's diagnostic portfolio. As part of this agreement, the Company made an upfront payment of $1.0 million related to a worldwide exclusive license agreement over a 20-year period, recorded in both short and long-term other assets. In addition, the agreement provides for an additional contingent payment of $10.0 million, relating to the successful achievement of sales milestones. This potential future milestone payment has not yet been accrued as it is not deemed by the Company to be probable at this time.
Both parties in this arrangement are active participants and are exposed to significant risks and rewards dependent on the commercial success of the activities of the collaboration. The parties are actively working on developing and testing the product as well as funding the research and development. Heska classifies the amounts paid for research and development tax credit carryforwardwork within the North America segment research and
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
development operating expenses. Expense is recognized ratably when incurred and in accordance with the development plan.
On January 3, 2023 (the "closing date"), the Company acquired 100% of the shares of LightDeck for approximately $37 million, of which $13.7 million was the reacquisition of the Company's previously held promissory notes discussed further below and in Note 17. The agreement also included a general indemnity holdback of approximately $0.4$2.6 million. Our federal NOLThe preliminary cash purchase price is expectedsubject to expirepotential purchase price adjustments, and the holdback must be released within 18 months of the closing date. The preliminary allocation of the cash purchase price to the fair value of assets acquired and liabilities assumed has not yet been completed. It is not practicable to disclose the preliminary purchase price allocation for this acquisition given the short period of time between the acquisition date and the issuance of these consolidated financial statements.
The Company evaluated the investment in LightDeck as well as a First Promissory Note and Second Promissory Note, discussed in Note 17, to determine whether we met the requirement for consolidation prior to the acquisition within the Variable Interest Entity ("VIE") and Voting Interest Entity ("VOE") models. In accordance with both the VIE and VOE models, it was concluded that while the Company does have a variable interest in LightDeck, the Company does not assert control over LightDeck and therefore should not consolidate their financial results prior to closing a merger transaction.
5. INCOME TAXES
The components of income before income taxes were as follows if unused: $88.0(in thousands):
| | | | | | | | | | | | | | | | | | | | |
| | | Year Ended December 31, |
| | | 2022 | | 2021 | | 2020 |
| Domestic | | $ | (13,465) | | | $ | 2,347 | | | $ | (9,441) | |
| Foreign | | (8,369) | | | (5,788) | | | (4,352) | |
| | | $ | (21,834) | | | $ | (3,441) | | | $ | (13,793) | |
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Temporary differences that give rise to the components of net deferred tax assets (liabilities) are as follows (in thousands): | | | | | | | | | | | | | | |
| | | December 31, |
| | | 2022 | | 2021 |
| Inventory | | $ | 6,995 | | | $ | 4,616 | |
| Accrued compensation | | 182 | | | (70) | |
| Stock options | | 3,882 | | | 3,581 | |
| Research and development tax credit | | 1,803 | | | 1,276 | |
| Research and development expense | | 6,387 | | | 3,291 | |
| Deferred revenue | | 1,411 | | | 1,390 | |
| Property and equipment | | 1,533 | | | 524 | |
| Net operating loss carryforwards | | 3,764 | | | 4,401 | |
| Foreign tax credit carryforward | | — | | | 64 | |
| Sales-type leases | | 1,800 | | | 2,494 | |
| | | | |
| Foreign intangible | | (14,098) | | | (11,477) | |
| Foreign net investment in leases | | (2,474) | | | — | |
| Allowance for bad debt | | 1,319 | | | 219 | |
| Interest expense limitation | | 807 | | | — | |
| Other | | (598) | | | (759) | |
| | 12,713 | | | 9,550 | |
| Valuation allowance | | (4,997) | | | (2,788) | |
| Total net deferred tax assets | | $ | 7,716 | | | $ | 6,762 | |
The components of the income tax (benefit) expense are as follows (in thousands):
| | | | | | | | | | | | | | | | | | | | |
| | | Year Ended December 31, |
| | | 2022 | | 2021 | | 2020 |
| Current income tax expense (benefit) : | | | | | | |
| Federal | | $ | 273 | | | $ | — | | | $ | (24) | |
| State | | 1,041 | | | 666 | | | 339 | |
| Foreign | | (26) | | | 225 | | | 1,465 | |
| Total current expense | | $ | 1,288 | | | $ | 891 | | | $ | 1,780 | |
| Deferred income tax (benefit) expense: | | | | | | |
| Federal | | $ | (2,930) | | | $ | (4,364) | | | $ | 369 | |
| State | | (1,223) | | | (813) | | | 289 | |
| Foreign | | (545) | | | 713 | | | (2,199) | |
| Total deferred benefit | | (4,698) | | | (4,464) | | | (1,541) | |
| Total income tax (benefit) expense | | $ | (3,410) | | | $ | (3,573) | | | $ | 239 | |
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
The Company's income tax (benefit) expense relating to income (loss) for the periods presented differs from the amounts that would result from applying the federal statutory rate to that income (loss) as follows:
| | | | | | | | | | | | | | | | | |
| Year Ended December 31, |
| 2022 | | 2021 | | 2020 |
| Statutory federal tax rate | 21 | % | | 21 | % | | 21 | % |
| State income taxes, net of federal benefit | 1 | % | | 3 | % | | (4) | % |
| Non-consolidated investment income | 1 | % | | 8 | % | | 1 | % |
| Foreign income inclusion | — | % | | — | % | | (12) | % |
| Non-temporary stock option benefit | 4 | % | | 49 | % | | 6 | % |
| | | | | |
| | | | | |
| Other permanent differences | (1) | % | | — | % | | 1 | % |
| Foreign tax rate differences | 3 | % | | 10 | % | | 2 | % |
| Change in tax rate | — | % | | 8 | % | | 1 | % |
| Change in valuation allowance | (11) | % | | 88 | % | | (4) | % |
| Other deferred differences | (1) | % | | (25) | % | | (2) | % |
| Transaction costs | — | % | | (4) | % | | (6) | % |
| Executive compensation limitation | (9) | % | | (65) | % | | (6) | % |
| Research & development credit | 6 | % | | (1) | % | | 2 | % |
| Equity investment | (1) | % | | (8) | % | | (4) | % |
| Change in uncertain tax benefits | — | % | | 11 | % | | 3 | % |
| Contingent consideration | 2 | % | | 10 | % | | — | % |
| Other foreign income taxes due | — | % | | (2) | % | | — | % |
| Other | 1 | % | | 1 | % | | (1) | % |
| Effective income tax rate | 16 | % | | 104 | % | | (2) | % |
In 2022, we had total income tax benefit of $3.4 million, including $4.2 million in 2018 through 2022, $5.5 million in 2024 and 2025domestic deferred income tax benefit and $0.5 million in 2027 and later. The Tax Cuts and Jobs Act repealed the corporate alternative minimum tax credit and made refundable all carryforward amounts in years 2018-2021. As a result, the alternative minimum tax credit of $0.5 million has been reclassified from aforeign deferred tax asset to a non-current federal income tax asset.benefit, and $1.3 million in current income tax expense. In 2021, we had total income tax benefit of $3.6 million, including approximately $5.2 million in domestic deferred income tax benefit and $0.7 million of foreign deferred income tax expense, and $0.9 million in current income tax expense. In 2020, we had total income tax expense of $0.2 million, including approximately $0.6 million in domestic deferred income tax expense and $2.2 million of foreign deferred income tax benefit, and approximately $1.8 million in current income tax expense. Income tax benefit decreased in 2022 from 2021 due to income tax expense related to change in valuation allowance offset by the additional tax benefit from financial reporting loss and research and development credits. Income tax expense decreased in 2021 from 2020 due to change in valuation allowance, stock option benefits, and executive compensation limitation.
Cash paid for income taxes for the years ended December 31, 2022, 2021 and 2020 was $2.7 million, $2.4 million and $993 thousand, respectively.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
The Company is subject to income taxes in the USU.S. federal jurisdiction, and various foreign, state and local jurisdictions. Tax regulations within each jurisdiction are subject to the interpretation of the related tax laws and regulations and require significant judgment to apply. Although the U.S. and many states generally have statutes of limitations ranging from 3 to 5 years, those statutes could be extended due to the Company’s net operating loss and tax credit carryforward positions in several of the Company's tax jurisdictions. In the United States,U.S., the tax years 20142019 - 20162021 remain open to examination by the Internal Revenue ServiceService.
As of December 31, 2022, the Company had a domestic research and development tax credit carryforward of approximately $1.8 million for federal tax purposes, which is offset by the uncertain tax years 2013 - 2016 remain openposition of $0.5 million, discussed below. All federal net operating loss carryforwards (“NOL”) are expected to be utilized in 2022. Our foreign NOL of $13.1 million and foreign interest expense limitation carryforward of $0.8 million do not have an expiration date.
The Company considered multiple factors in assessing the need for various state taxing authorities.
Cash paid foran increase in the partial valuation allowance against the Company’s deferred tax assets as of December 31, 2022. Due to future projected income taxesand IRC §174 research and development capitalization requirements, the Company believes it will be able to utilize the remaining research and development tax credits before they expire. For foreign purposes, the Company believes due to projected losses and historical three year cumulative losses in Germany, France, Italy and Spain, all statutory deferred tax assets will not be utilized and therefore increased the valuation allowance against all statutory deferred balances. As a result, the Company recorded an additional $2.2 million tax effected increase to the current partial valuation allowance against the Company's statutory foreign assets for the yearsyear ended December 31, 2017, 2016,2022. As of December 31, 2022, the Company had a deferred tax asset of approximately $6.4 million from net operating losses, interest expense limitation carryforward, and 2015 was $213 thousand, $357 thousandtax credits and $55 thousand, respectively.a net partial valuation allowance of approximately $5.0 million recorded against these deferred tax assets. The Company will continue to closely monitor the need for an additional valuation allowance against its deferred tax assets in each subsequent reporting period, which can be impacted by actual operating results compared to the Company's forecast.
The components of income before
ASC Topic 740 prescribes the accounting for uncertainty in income taxes wererecognized in the financial statements in accordance with the other provisions contained within this guidance. This topic prescribes a recognition threshold and a measurement attribute for the financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. For those benefits to be recognized, a tax position must be more likely than not to be sustained upon examination by the taxing authorities. The amount recognized is measured as followsthe largest amount of benefit that is greater than 50% likely or being realized upon ultimate audit settlement. In the normal course of business, the Company's tax returns are subject to examination by various taxing authorities. Such examination may result in future tax and interest assessments by these taxing authorities for uncertain tax positions taken in respect to certain matters.
The following provides a reconciliation of unrecognized tax benefits (in thousands): | | | | | | | | | | | | | | |
| | Year Ended December 31, |
| | 2022 | | 2021 |
| Balance at beginning of period | | $ | (893) | | | $ | (808) | |
| Additions based on prior year tax positions | | (378) | | | (508) | |
| Additions based on current year tax position | | (104) | | | — | |
| Reductions from lapse in statues of limitation | | 436 | | | 404 | |
| Currency translation adjustment | | 47 | | | 19 | |
| Other adjustment | | 28 | | — | |
| Balance at the end of period | | $ | (864) | | | $ | (893) | |
|
| | | | | | | | | | | | |
| | | Year Ended December 31, |
| | | 2017 | | 2016 | | 2015 |
| Domestic | | $ | 18,188 |
| | $ | 16,375 |
| | $ | 8,325 |
|
| Foreign | | 181 |
| | 129 |
| | 102 |
|
| | | $ | 18,369 |
| | $ | 16,504 |
| | $ | 8,427 |
|
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Temporary differences that give rise to the components of net deferred tax assets are as follows (in thousands):
|
| | | | | | | | |
| | | December 31, |
| | | 2017 | | 2016 |
| Inventory | | $ | 1,321 |
| | $ | 1,172 |
|
| Accrued compensation | | 103 |
| | 114 |
|
| Stock options | | 914 |
| | 811 |
|
| Research and development | | 442 |
| | 438 |
|
| Alternative minimum tax credit | | — |
| | 543 |
|
| Deferred revenue | | 2,002 |
| | 2,934 |
|
| Property and equipment | | 2,531 |
| | 2,750 |
|
| Net operating loss carryforwards – domestic | | 22,627 |
| | 34,706 |
|
| Foreign tax credit carryforward | | 54 |
| | — |
|
| Capital leases | | (3,757 | ) | | (2,833 | ) |
| Unremitted earnings for controlled foreign corporations | | (50 | ) | | — |
|
| Other | | 194 |
| | 34 |
|
| | | 26,381 |
| | 40,669 |
|
| Valuation allowance | | (14,504 | ) | | (19,547 | ) |
| Total net deferred tax assets | | $ | 11,877 |
| | $ | 21,122 |
|
The componentstotal amount of the incomeunrecognized tax expense arebenefits as follows (in thousands):
|
| | | | | | | | | | | | |
| | | Year Ended December 31, |
| | | 2017 | | 2016 | | 2015 |
| Current income tax expense: | | |
| | |
| | |
|
| Federal | | $ | — |
| | $ | 197 |
| | $ | 1,492 |
|
| State | | 6 |
| | 179 |
| | 65 |
|
| Foreign | | 43 |
| | 31 |
| | 24 |
|
| Total current expense | | $ | 49 |
| | $ | 407 |
| | $ | 1,581 |
|
| Deferred income tax expense (benefit): | | |
| | |
| | |
|
| Federal | | $ | 9,736 |
| | $ | 3,545 |
| | $ | 1,043 |
|
| State | | (872 | ) | | 387 |
| | 284 |
|
| Foreign | | — |
| | — |
| | — |
|
| Total deferred expense | | 8,864 |
| | 3,932 |
| | 1,327 |
|
| Total income tax expense | | $ | 8,913 |
| | $ | 4,339 |
| | $ | 2,908 |
|
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
The Company's income tax expense (benefit) relating to income (loss) for the periods presented differs from the amounts that would result from applying the federal statutory rate to that income (loss) as follows:
|
| | | | | | | | |
| | Year Ended December 31, |
| | 2017 | | 2016 | | 2015 |
| Statutory federal tax rate | 34 | % | | 34 | % | | 34 | % |
| State income taxes, net of federal benefit | (5 | )% | | 2 | % | | 3 | % |
| Non-controlling interest in Heska Imaging US, LLC | 1 | % | | (3 | )% | | (1 | )% |
| Non-temporary stock option benefit | (30 | )% | | (7 | )% | | (1 | )% |
| Other permanent differences | 1 | % | | (1 | )% | | — | % |
| Change in tax rate | 32 | % | | — | % | | (1 | )% |
| Change in valuation allowance | 16 | % | | — | % | | (14 | )% |
| Other | — | % | | 1 | % | | 15 | % |
| Effective income tax rate | 49 | % | | 26 | % | | 35 | % |
In 2017, we had total income tax expense of $8.91 million, including $8.86 million in domestic deferred income tax expense, a non-cash expense, and $0.05 million in current income tax expense. In 2016, we had total income tax expense of $4.3 million, including $3.9 million in domestic deferred income tax expense, a non-cash expense, and $0.4 million in current income tax expense. In 2015, we had total income tax expense of $2.9 million, including $1.3 million in domestic deferred income tax expense, a non-cash expense, and $1.6 million in current income tax expense. The overall increase in tax expense in 2017 from 2016 was due to the re-measurement of our deferred tax assets (including the valuation allowance) due to the US Tax Cuts and Jobs Act, offset by the reduction of tax expense from stock based compensation deductions. Income tax expense increased in 2016 from 2015 as a result of higher income before taxes in 2016.
ASC 740 provides detailed guidance for the financial statement recognition, measurement and disclosure of uncertain tax positions recognized in the financial statements. Tax positions must meet a "more-likely-than-not" recognition threshold before a benefit is recognized in the financial statements. As of December 31, 2017,2022 was approximately $0.9 million, which may impact the effective tax rate if recognized. Historically, these unrecognized tax benefits were recognized as part of the acquisition of scil animal care company GmbH ("scil") in 2020 and BiEssA A-Laboratorio die Analisi Veterinarie S.r.l ("BSA") in 2021. Per the tax indemnification included in the purchase agreements of scil and BSA, the sellers have indemnified the Company hasfor these other liabilities, which would reduce the economic impact to the Company if these positions were settled with tax authorities. In 2022, the Company increased unrecognized tax benefits of $0.5 million related to the 2019 - 2022 domestic research and development tax credits. These credits often receive challenge and include controversy in the Internal Revenue Service's interpretation of both facts and law that may differ from that of the Company. It is expected that the amount of unrecognized tax benefits will change in the next 12 months; however, the Company does not recordedexpect the change to have a liability for uncertain tax positions.material impact on the combined financial statements. The Company would recognizerecognizes interest and penalties related to uncertain tax positions in income tax (benefit)/expense. No interestInterest and penalties related to uncertain tax positions were accrued atas of December 31, 2017.2022 are $28 thousand.
US Tax Reform
OnAs of December 22, 2017,31, 2022, the tax legislation commonly known asCompany had accumulated undistributed earnings generated by foreign subsidiaries of approximately $4.1 million, which would be subject to U.S. taxes and foreign withholding taxes of approximately $0.2 million if repatriated. If the US Tax Cuts and Jobs Act was signed into law (the “Act”). This enactment resulted in a number of significant changesCompany decides to US federalrepatriate these foreign earnings, it would need to adjust its income tax law for US corporations. Most notably, the statutory US federal corporate income tax rate was changed from 35% to 21% for corporations. In addition to the changeprovision in the corporate income tax rate,period it determined that the Act further introduced a number of other changes including a one-time transition tax via a mandatory deemed repatriation of post-1986 undistributed foreign earnings would no longer be indefinitely invested outside the United States.
6. LEASES
Lessee Accounting
The Company leases buildings, office equipment, and profits;vehicles. The following table summarizes the introduction of a tax on global intangible low-taxed income (“GILTI”) for tax years beginning afterCompany's operating and finance lease balances (in thousands):
| | | | | | | | | | | | | | | | | | | | |
| Leases | | Balance Sheet Location | | December 31, 2022 | | December 31, 2021 |
| Assets | | | | | | |
| Operating | | Operating lease right-of-use assets | | $ | 6,897 | | | $ | 5,198 | |
| Finance | | Property and equipment, net | | 1,471 | | | 1,650 | |
| Total Leased Assets | | | | $ | 8,368 | | | $ | 6,848 | |
| | | | | | |
| Liabilities | | | | | | |
| Operating | | Operating lease liabilities, current | | $ | 2,944 | | | $ | 2,227 | |
| | Operating lease liabilities, non-current | | 4,528 | | | 3,509 | |
| Finance | | Deferred revenue, current, and other | | 127 | | | 200 | |
| | Other liabilities | | 307 | | | 331 | |
| Total Lease Liabilities | | | | $ | 7,906 | | | $ | 6,267 | |
For the year ended December 31, 2017;2022, operating lease expense was approximately $3.2 million, including immaterial variable lease costs. For the further limitation ofyear ended December 31, 2021, operating lease expense was approximately $3.1 million, including immaterial variable lease costs. For the deductibility of share-based compensation of certain highly compensated employees;year ended December 31, 2020, operating lease expense was approximately $2.8 million, including immaterial variable lease costs.
Finance lease amortization expense was $0.2 million, $0.4 million, and the repeal of the corporate alternative minimum tax; amongst other things.
Shortly after enactment, the Security and Exchange Commission ("SEC") issued SAB 118, which provides guidance on accounting$0.3 million for the new legislation. Under SAB 118, an entity should recognize amountsyears ended December 31, 2022, 2021 and 2020, respectively. Finance lease interest expense was $15 thousand, $12 thousand, and $10 thousand for which accounting can be completed. Where accounting under ASC 740 is incomplete relative tothe years ended December 31, 2022, 2021 and 2020, respectively.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Supplemental cash flow information related to the Company's operating and finance leases for the years ended December 31, 2022, 2021, and 2020 respectively, was as follows (in thousands): | | | | | | | | | | | | | | | | | |
| Year Ended |
| December 31, |
| 2022 | | 2021 | | 2020 |
| Cash paid for amounts included in the measurement of lease liabilities: | | | | | |
| Operating cash outflows - operating leases | $ | 2,984 | | | $ | 2,315 | | | $ | 2,213 | |
| Operating cash outflows - finance leases | $ | 15 | | | $ | 12 | | | $ | 10 | |
| Financing cash outflows - finance leases | $ | 199 | | | $ | 290 | | | $ | 250 | |
| ROU assets obtained in exchange for new lease obligations: | | | | | |
| Operating leases | $ | 1,781 | | | $ | 1,028 | | | $ | 788 | |
| Finance leases | $ | 122 | | | $ | 310 | | | $ | 159 | |
certain income tax effects of tax reform,
The following table presents the entity should recognize provisional amountsweighted average remaining lease term and adjust such amounts as more information becomes available and disclose this information in its financial statements. weighted average discount rate related to the Company's leases: | | | | | | | | | | | |
| December 31, |
| 2022 | | 2021 |
| Weighted average remaining lease term: | | | |
| Operating | 4.8 years | | 3.0 years |
| Finance | 3.2 years | | 3.5 years |
| Weighted average discount rate: | | | |
| Operating | 3.7 | % | | 4.2 | % |
| Finance | 3.5 | % | | 3.0 | % |
The measurement period under SAB 118 is one year from date of enactment (withfollowing table presents the approach being similar to business combinations).
Heska has determined the estimated tax impactmaturity of the Act by using the most reliable data available in accordance with SAB 118. Specifically, at the time the estimated tax reform impact was performed, only the Final Bill itself and Notice 2018-07 had been released to provide guidance. Therefore, reasonable approaches and considerations were performed in estimating the overall tax reform impact. Further refinement will be made to this estimation as the IRS provides further guidance prior to the filing of the Company’s 2017 income tax returns. The ultimate impact of the Act may differ from this year-end estimate due to changes in interpretations and assumptions, guidance that may be issued by various US authorities and standard setting bodies, and actions the Company may take as a result of the new provisions. The Company will refine these estimates during the one year measurement period in accordance with SAB 118.
The items below outline the 2017 financial statement considerations associated with the most material provisions of the Act impacting the Company. This list is not intended to be inclusive of all provisions included in the Act nor all impacts to the Company as a result of the Act.
The Act reduces the US corporate income tax rate to 21% for tax years beginning after December 31, 2017. The Company’s deferred tax balances were re-measured at 21%Company's lease liabilities as of December 31, 2017. The total impact of the US tax rate decrease resulted in a one-time tax expense of $5.9 million (i.e., the write down of deferred tax asset balances and the valuation allowance.). The large amount of federal NOLs, offset against the valuation allowance thereon, were included in this re-measurement, acting as a significant driver in the large adjustment.
The Act imposes a one-time transition tax associated with the deemed mandatory repatriation of accumulated, and previously undistributed, foreign earnings. The Company has considered estimates of earnings and profits (E&P) as prepared and maintained for US income tax reporting and performed other procedures consistent with current guidance, in arriving at the current transition tax estimate of $38 thousand. The Company will pay this tax liability in the year it is initially assessed and will not elect to pay over the optional eight-year period.
GILTI (Global Intangible and Low Taxed Income) is not expected to apply to the Company as it has been historically subject to full inclusions of Subpart F income, which is excluded from “tested income” for GILTI purposes. This will be monitored going forward to ensure proper inclusion if necessary. If indeed levied, the Company will likely elect to treat such GILTI inclusion as a period expense, not a deferred tax liability.
Corporate AMT is repealed for tax years beginning after December 31, 2017. For this reason, the remaining AMT credit carryforward has been re-classified in the tax provision from a deferred tax asset to a long term receivable. This change reflects the Act’s provision that AMT credits become refundable over time beginning in 2018.
We previously considered the earnings in our non-US subsidiaries to be indefinitely reinvested and, accordingly, recorded no deferred income taxes for the year ended December 31, 2016. As of December 31, 2017, Heska is no longer asserting indefinite reinvestment under the exception noted in ASC 740-30-25-3, which states that the presumption that all undistributed earnings will be transferred to the parent entity may be overcome, and no income taxes shall be accrued by the parent entity. Prior to the Transition Tax, we had an excess of the amount for financial reporting over the tax basis in our foreign subsidiaries. While the Transition Tax resulted in the reduction of the excess of the amount for financial reporting over the tax basis2022 (in thousands): | | | | | | | | | | | |
| Year Ending December 31, | Operating Leases | | Finance Leases |
| 2023 | $ | 3,255 | | | $ | 168 | |
| 2024 | 1,212 | | | 134 | |
| 2025 | 898 | | | 102 | |
| 2026 | 653 | | | 50 | |
| 2027 | 461 | | | 5 | |
| Thereafter | 1,405 | | | — | |
| Total lease payments | 7,884 | | | 459 | |
| Less: imputed interest | 412 | | | 25 | |
| Total lease liabilities | $ | 7,472 | | | $ | 434 | |
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
in our foreign subsidiaries and subjected undistributed foreign earnings to an estimated $.02 million of tax which has been provisionally recorded, an actual repatriation from our non-US subsidiaries could still be subject to additional foreign withholding taxes and US state taxes. As such, for those investments from which we were able to make a reasonable estimate of the tax effects of such repatriation, we have recorded a provisional estimate for withholding and state taxes as a deferred tax liability of $.05 million. We will record the tax effects of any change in our prior assertion with respect to these investments, and disclose any unrecognized deferred tax liability for temporary differences related to our foreign investments, if practicable, in the period that we are first able to make a reasonable estimate, no later than December 2018.Lessor Accounting
4. LEASES
In our CCA segment, primarily related to our point of care laboratory products, theThe Company enters into sales-type (capital) and operating leases as part of our subscription agreements. DetailThe following table presents the maturity of scheduled minimumthe Company's lease receipts arereceivables as follows in the years endedof December 31, 2022 (in thousands):
| | | | | |
| Year Ending December 31, | Sales-Type Leases |
| 2023 | $ | 7,674 | |
| 2024 | 7,451 | |
| 2025 | 6,636 | |
| 2026 | 5,888 | |
| 2027 | 4,335 | |
| Thereafter | 2,948 | |
| |
| |
| Total lease receivables | $ | 34,932 | |
|
| | | | | | |
| Year | 2018 | 2019 | 2020 | 2021 | 2022 | Thereafter |
| Sales-type leases | $2,119 | $2,288 | $2,281 | $2,198 | $1,794 | $1,004 |
| Operating leases | 1,159 | 933 | 605 | 148 | 9 | — |
Our cost of equipment underThe following table summarizes the profit recognized on the commencement date for sales-type leases and lease income for equipment-only operating leases at December 31, 2017 and December 31, 2016, was $10.8 million and $10.5 million, before accumulated depreciation of $5.0 million and $3.7 million, and the net book value was $5.7 million and $6.8 million, respectively.(in thousands):
5. | | | | | | | | | | | | | | | | | |
| Year Ended |
| December 31, |
| 2022 | | 2021 | | 2020 |
| Sales-type lease revenue | $ | 16,273 | | | $ | 12,243 | | | $ | 5,617 | |
| Sales-type lease cost of revenue | 13,553 | | | 9,925 | | | 3,951 | |
| Profit recognized at commencement for sales-type leases | $ | 2,720 | | | $ | 2,318 | | | $ | 1,666 | |
| | | | | |
| Operating lease income | $ | 1,669 | | | $ | 2,110 | | | $ | 1,012 | |
| | | | | |
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
7. EARNINGS PER SHARE
Basic earnings per share ("EPS") is computed by dividing net incomeloss attributable to Heska Corporationthe Company by the weighted-average number of common shares outstanding during the period. The computation of diluted EPS is similar to the computation of basic EPS except that the numerator is increased to exclude charges that would not have been incurred, and the denominator is increased to include the number of additional common shares that would have been outstanding (using the if-converted and treasury stock methods), if securities containing potentially dilutive common shares (stock options and restricted stock unitsawards but excluding options to purchase fractional shares resulting from the Company's December 2010 1-for-10 reverse stock split) had been converted to common shares, and if such assumed conversion is dilutive.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
The following is a reconciliation of the weighted-average shares outstanding used in the calculation of basic and diluted earnings per share ("EPS") for the years ended December 31, 2017, 2016,2022, 2021 and 20152020 (in thousands, except per share data): |
| | | | | | | | | | | |
| | Years ended December 31, |
| | 2017 | | 2016 | | 2015 |
| Net income attributable to Heska Corporation | $ | 9,953 |
| | $ | 10,508 |
| | $ | 5,239 |
|
| | | | | | |
| Basic weighted-average common shares outstanding | 7,026 |
| | 6,783 |
| | 6,509 |
|
| Assumed exercise of dilutive stock options and restricted stock units | 616 |
| | 578 | | 565 |
|
| Diluted weighted-average common shares outstanding | 7,642 |
| | 7,361 |
| | 7,074 |
|
| | | | | | |
| Basic earnings per share | $ | 1.42 |
| | $ | 1.55 |
| | $ | 0.80 |
|
| Diluted earnings per share | $ | 1.30 |
| | $ | 1.43 |
| | $ | 0.74 |
|
| | | | | | | | | | | | | | | | | |
| Years ended December 31, |
| 2022 | | 2021 | | 2020 |
| Net loss attributable to Heska Corporation | $ | (19,889) | | | $ | (1,148) | | | $ | (14,399) | |
| | | | | |
| Basic weighted-average common shares outstanding | 10,343 | | | 10,015 | | | 8,653 | |
| Assumed exercise of dilutive stock options and restricted shares | — | | | — | | | — | |
| Diluted weighted-average common shares outstanding | 10,343 | | | 10,015 | | | 8,653 | |
| | | | | |
| Basic loss per share attributable to Heska Corporation | $ | (1.92) | | | $ | (0.11) | | | $ | (1.66) | |
| Diluted loss per share attributable to Heska Corporation | $ | (1.92) | | | $ | (0.11) | | | $ | (1.66) | |
The following potentially outstanding common shares from convertible preferred stock, convertible senior notes, stock options and restricted unitsstock awards were excluded from the computation of diluted EPS because the effect would have been antidilutive (in thousands):
| | | | | | | | | | | | | | | | | |
| Years ended December 31, |
| 2022 | | 2021 | | 2020 |
| Convertible preferred stock | — | | | — | | | 458 | |
| Convertible senior notes | 996 | | | 996 | | | 118 | |
| Stock options and restricted shares | 278 | | | 404 | | | 328 | |
| 1,274 | | | 1,400 | | | 904 | |
As more fully described in Note 16, the Notes are convertible under certain circumstances, as defined in the indenture, into a combination of cash and shares of the Company's common stock. As discussed in Note 1, the Company early adopted ASU 2020-06, effective January 1, 2021, which amends certain guidance on the computation of EPS for convertible instruments. Prior to the adoption of ASU 2020-06, the Company used the treasury stock method when calculating the potential dilutive effect of the conversion feature of the Notes on earnings per share, if any. Under ASU 2020-06, the treasury stock method is no longer available, and entities must apply the if-converted method for convertible instruments and the effect of potential share settlement must be included in the diluted earnings per share calculation when an instrument may be settled in cash or shares. To determine the dilutive effect to earnings per share using the if-converted method, interest expense on the outstanding Notes is added back to the diluted earnings per share numerator and all of the potentially dilutive shares are included in the diluted earnings per share denominator. For year ended December 31, 2022, all of the potentially issuable shares with respect to the Notes were excluded from the
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
calculation of diluted net earnings per share because theythe effect was anti-dilutive. The Company has elected to apply the modified retrospective method of adoption and will not restate EPS for the prior period.
As discussed in Note 12, the Company issued and sold an aggregate of 122,000 shares of its Preferred Stock to certain investors in a private placement offering. The shares were converted into 1,508,964 shares of Public Common Stock, effective on April 21, 2020. The potential dilutive effect of the convertible preferred stock was calculated using the if-converted method for the period the preferred shares were outstanding. For the year ended December 31, 2020, these shares were excluded from the computation of diluted EPS because the effect would have been anti-dilutive (in thousands):antidilutive.
|
| | | | | | | | |
| | Years ended December 31, |
| | 2017 | | 2016 | | 2015 |
| Stock options | 123 |
| | 234 |
| | 144 |
|
6.8. GOODWILL AND OTHER INTANGIBLES
The following summarizes the changes in goodwill during the years ended December 31, 20172022 and 20162021 (in thousands): | | | | | | | | | | | | | | | | | |
| North America | | International | | Total |
| Carrying amount, December 31, 2020 | $ | 35,414 | | | $ | 52,862 | | | $ | 88,276 | |
| Goodwill attributable to acquisitions | 30,039 | | | 4,562 | | | 34,601 | |
| | | | | |
| Foreign currency adjustments | 82 | | | (4,133) | | | (4,051) | |
| Carrying amount, December 31, 2021 | $ | 65,535 | | | $ | 53,291 | | | $ | 118,826 | |
| Goodwill attributable to acquisitions | — | | | 21,986 | | | 21,986 | |
| Measurement period adjustment to prior year acquisition | (17) | | | — | | | (17) | |
| Foreign currency adjustments | (606) | | | (4,271) | | | (4,877) | |
| Carrying amount, December 31, 2022 | $ | 64,912 | | | $ | 71,006 | | | $ | 135,918 | |
|
| | | |
| Carrying amount, December 31, 2015 | $ | 20,910 |
|
| Additions and adjustments | 5,761 |
|
| Foreign currency adjustments | (24 | ) |
| Carrying amount, December 31, 2016 | $ | 26,647 |
|
| Foreign currency adjustments | 40 |
|
| Carrying amount, December 31, 2017 | $ | 26,687 |
|
Other intangibles assets, net consisted of the following as of December 31, 20172022 and 20162021 (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| 2022 | | 2021 |
| Gross Carrying Amount | | Accumulated Amortization | | Net Carrying Amount | | Gross Carrying Amount | | Accumulated Amortization | | Net Carrying Amount |
| Intangible assets subject to amortization: | | | | | | | | | | | |
| Customer relationships and other | $ | 56,900 | | | $ | (16,002) | | | $ | 40,898 | | | $ | 47,629 | | | $ | (11,145) | | | $ | 36,484 | |
| Developed technology | 19,143 | | | (6,462) | | | 12,681 | | | 15,633 | | | (3,218) | | | 12,415 | |
| Trade names | 1,818 | | | (319) | | | 1,499 | | | 223 | | | (166) | | | 57 | |
| Intangible assets not subject to amortization: | | | | | | | | | | | |
| Trade names | 7,315 | | | — | | | 7,315 | | | 7,749 | | | — | | | 7,749 | |
| Total intangible assets | $ | 85,176 | | | $ | (22,783) | | | $ | 62,393 | | | $ | 71,234 | | | $ | (14,529) | | | $ | 56,705 | |
|
| | | | | | | |
| | Year Ended December 31, |
| | 2017 | | 2016 |
| Gross carrying amount | $ | 3,309 |
| | $ | 3,309 |
|
| Accumulated amortization | (1,351 | ) | | (963 | ) |
| Net carrying amount | $ | 1,958 |
| | $ | 2,346 |
|
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Amortization expense relating to other intangibles is as follows (in thousands):
| | | | | | | | | | | | | | | | | |
| Years Ended December 31, |
| 2022 | | 2021 | | 2020 |
| Amortization expense | $ | 8,559 | | | $ | 6,291 | | | $ | 5,196 | |
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
|
| | | | | | | | | | | |
| | Years Ended December 31, |
| | 2017 | | 2016 | | 2015 |
| Amortization expense | $ | 388 |
| | $ | 230 |
| | $ | 246 |
|
The remaining weighted-average amortization period for intangible assets is approximately 7.6 years.
Estimated amortization expense related to intangibles for each of the five years from 20182023 through 20222027 and thereafter is as follows (in thousands):
| | | | | |
| Year Ending December 31, | |
| 2023 | $ | 8,470 | |
| 2024 | 7,870 | |
| 2025 | 7,826 | |
| 2026 | 7,432 | |
| 2027 | 6,505 | |
| Thereafter | 16,975 | |
| Total amortization related to finite-lived intangible assets | 55,078 | |
| Indefinite-lived intangible assets | 7,315 | |
| Net intangible assets | $ | 62,393 | |
|
| | | |
| Year Ending December 31, | |
| 2018 | $ | 388 |
|
| 2019 | 388 |
|
| 2020 | 388 |
|
| 2021 | 384 |
|
| 2022 | 378 |
|
| Thereafter | 32 |
|
| | $ | 1,958 |
|
7.9. PROPERTY AND EQUIPMENT, NET
Detail of propertyProperty and equipment, is as followsnet, consisted of the following (in thousands): |
| | | | | | | |
| | December 31, |
| | 2017 | | 2016 |
| Land | $ | 377 |
| | $ | 377 |
|
| Building | 2,868 |
| | 2,868 |
|
| Machinery and equipment | 38,432 |
| | 36,588 |
|
| Leasehold and building improvements | 8,156 |
| | 7,662 |
|
| Construction in progress | 3,531 |
| | 1,655 |
|
| | 53,364 |
| | 49,150 |
|
| Less accumulated depreciation | (36,033 | ) | | (32,569 | ) |
| Total property and equipment, net | $ | 17,331 |
| | $ | 16,581 |
|
| | | | | | | | | | | |
| | December 31, |
| | 2022 | | 2021 |
| Land | $ | 2,182 | | | $ | 2,959 | |
| Building | 11,558 | | | 11,288 | |
| Machinery and equipment | 39,141 | | | 39,851 | |
| Office furniture and equipment | 1,951 | | | 1,732 | |
| Computer hardware and software | 5,923 | | | 5,285 | |
| Leasehold and building improvements | 10,854 | | | 10,796 | |
| Construction in progress | 283 | | | 286 | |
| Property and equipment, gross | 71,892 | | | 72,197 | |
| Less accumulated depreciation | (39,721) | | | (38,784) | |
| Total property and equipment, net | $ | 32,171 | | | $ | 33,413 | |
The Company has subscription agreements whereby its instruments in inventory may be placed inat a customer's location on a rental basis. TheFor instruments classified as operating leases, the cost of these instruments is transferred to machinery and equipment and depreciated, typically over a five5 to seven-year7 year period depending on the circumstance under which the instrument is placed with the customer. Total costs transferred from inventory were approximately $1.1 million, $1.8 million and $4.1 million for the years ended December 31, 2017, 2016 and 2015, respectively.
The Company has sold certain customer rental contracts and underlying assets to third partiesOur cost of instruments under agreements that once the customer has met the customer obligations under the contract, ownership of the assets underlying the contract would be returned to the Company. The Company enters a debit to cash and a corresponding credit to deferred revenue at the time of these sales. Since the Company anticipates it will regain ownership of the assets underlying these sales, the Company reports these assets as part of property and equipment and depreciates these assets in accordance with its depreciation policies. The Company had $0.2 million and $0.3 million of net property and equipment related to these transactionsoperating leases as of December 31, 20172022 and December 31, 2016,2021 was $15.7 million and $15.1 million, respectively, all related to Heska Imaging.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
before accumulated depreciation of $6.5 million and $5.8 million, respectively.
Depreciation expense for property and equipment was $4.3$4.7 million, $4.4$6.4 million and $4.0$6.2 million for the years ended December 31, 2017, 20162022, 2021 and 2015,2020, respectively.
8.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
10. INVENTORIES
Inventories consisted of the following (in thousands): | | | | | | | | | | | |
| December 31, |
| 2022 | | 2021 |
| Raw materials | $ | 20,978 | | | $ | 16,094 | |
| Work in process | 4,102 | | | 3,656 | |
| Finished goods | 34,970 | | | 29,611 | |
| Total inventories | $ | 60,050 | | | $ | 49,361 | |
Inventories are measured on a first-in, first-out basis and stated at lower of cost or net realizable value.
11. ACCRUED LIABILITIES
Accrued liabilities consisted of the following as of December 31, 2017 and 2016 (in thousands): | | | | | | | | | | | |
| December 31, |
| 2022 | | 2021 |
| Accrued payroll and employee benefits | $ | 7,908 | | | $ | 9,392 | |
| Accrued property taxes | 670 | | | 656 | |
| Accrued purchase orders | 203 | | | 552 | |
| Accrued taxes | 2,123 | | | 3,574 | |
| Other | 4,245 | | | 5,250 | |
| Total accrued liabilities | $ | 15,149 | | | $ | 19,424 | |
|
| | | | | | | |
| | 2017 | | 2016 |
| Accrued payroll and employee benefits | $ | 1,209 |
| | $ | 2,166 |
|
| Accrued property taxes | 661 |
| | 748 |
|
| Other | 2,547 |
| | 2,667 |
|
| Total accrued liabilities | $ | 4,417 |
| | $ | 5,581 |
|
Other accrued liabilities consistsconsist of items that are individually less than 5% of total current liabilities.
9.12. CAPITAL STOCK
Stock Plans
We have twoThe Company has stock optionincentive plans which authorize granting of stock options, restricted stock awards, restricted stock units, and stock purchase rights to our employees, officers, directors and consultants. In 1997, the board of directors adopted the 1997 Stock Incentive Plan (the "1997 Plan") and terminated two prior stock plans. All shares that remained available for grant under, which was later amended in December 2018 to be renamed the terminated plans were incorporated into the 1997 Plan, including shares subsequently canceled under prior plans."Stock Incentive Plan." In May 2012, the stockholders approved an amendment to the 1997 Plan allowing for an increase of 250,000 shares and an annual increase through 2016 based on the number of non-employee directors serving as of our Annual Meeting of Stockholders, subject to a maximum of 45,000 shares per year. InThe plan was further amended in May 2016, May 2018, and April 2020 to increase the stockholders approved a further amendment to the 1997 Plan to authorize an additional 500,000number of shares to be availableauthorized for issuance thereunder.by 500,000, 250,000, and 300,000 shares, respectively. In May 2003, the stockholders approved a new plan, the 2003 Equity Incentive Plan (the "2003 Plan"), which allows for the granting of stock options/restricted stock for up to 239,050 shares of the Company's common stock. In May 2021, stockholders approved the Heska Corporation Equity Incentive Plan (the "Stock Plan") that replaced the Stock Incentive Plan and the 2003 Plan and includes a reserve for an additional 250,000 shares of common stock along with any shares that remained available for grant under the prior plans. The total number of shares reserved for issuance under both plans as of December 31, 20172022 was 320,039.132,024.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Stock Options
The stock options granted by the boardBoard of directorsDirectors may be either incentive stock options ("ISOs") or non-qualified stock options ("NQs"). and may include time-based vesting terms and/or be tied to Company and market-related performance metrics. The exercise price for options under all of the plans may be no less than 100% of the fair value of the underlying common stock for ISOs or 85% of fair value for NQs.stock. Options granted will expire no later than the tenth anniversary subsequent to the date of grant or three months following termination of employment, except in cases of death or disability, in which case the options will remain exercisable for up to twelve months. Under the terms of the 1997Stock Incentive Plan, in the event we are sold or merged, outstanding options will either be assumed by the surviving corporation or vest immediately.
There are four key inputs toWe use the Black-Scholes option-pricing model which we use to estimate the fair value forof time-vested and performance stock options granted, which we issue:includes four key inputs: expected term, expected volatility, risk-free interest rate and expected dividends, all of which require us to make estimates. Our estimates for these inputs may not be indicative of actual future performance and changes to any of these inputs can have a material impact on the resulting estimated fair value calculated for the option.dividends. Our expected term input wasis estimated based on our historical experience for time from option grant to option exercise for all employees in 2017, 2016 and 2015. We treated all employees in one grouping in all three years.patterns. Our expected volatility input was estimated based on our historical stock price volatility in 2017, 2016 and 2015.volatility. Our risk-free interest rate input was determined based on the US
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
U.S. Treasury yield curve at the time of option issuance in 2017, 2016 and 2015.issuance. Our expected dividends inputs were zero in all periods as we did not anticipate paying dividends in the foreseeable future.
Weighted average assumptions For options tied to market performance, the fair value used in 2017, 2016our expense recognition method is measured based on the number of shares granted, and 2015 fora Monte Carlo simulation model, which incorporates the probability of the achievement of the market-related performance goals as part of the grant date fair value. We recognize forfeitures as they occur. No stock options were granted during 2022.
Time Vesting Stock Options
The fair value of each time vesting option grant was estimated on the date of these four key inputs are listed ingrant using the Black-Scholes option-pricing model with the following table:weighted average assumptions:
| | | | | | | | | | | | | | | |
| | | | 2021 | | 2020 |
| Risk-free interest rate | | | 0.98% | | 3.64% |
| Expected lives | | | 5.6 years | | 5.3 years |
| Expected volatility | | | 47% | | 46% |
| Expected dividend yield | | | 0% | | 0% |
|
| | | | | |
| | 2017 | | 2016 | | 2015 |
| Risk-free interest rate | 1.76% | | 1.76% | | 1.41% |
| Expected lives | 4.8 years | | 4.5 years | | 3.4 years |
| Expected volatility | 41% | | 41% | | 41% |
| Expected dividend yield | 0% | | 0% | | 0% |
A summary of our time vesting stock option plans, excluding options to purchase fractional shares resulting from our December 2010 1-for-10 reverse stock split,activity is as follows:
| | | | | | | | | | | |
| | Year Ended December 31, |
| | 2022 |
| | Options | | Weighted Average Exercise Price |
| Outstanding at beginning of period | 420,202 | | | $ | 64.06 | |
| Granted at market | — | | | $ | — | |
| Forfeited | (7,416) | | | $ | 122.56 | |
| Expired | (291) | | | $ | 150.29 | |
| Exercised | (72,457) | | | $ | 25.87 | |
| Outstanding at end of period | 340,038 | | | $ | 70.84 | |
| Exercisable at end of period | 322,662 | | | $ | 66.18 | |
|
| | | | | | | | | | | | | | | | | | | | |
| | Year Ended December 31, |
| | 2017 | | 2016 | | 2015 |
| |
Options | | Weighted Average Exercise Price | |
Options | | Weighted Average Exercise Price | |
Options | | Weighted Average Exercise Price |
| Outstanding at beginning of period | 829,617 |
| | $ | 23.203 |
| | 940,610 |
| | $ | 14.163 |
| | 1,074,251 |
| | $ | 10.110 |
|
| Granted at Market | 27,050 |
| | $ | 99.087 |
| | 129,855 |
| | $ | 67.706 |
| | 146,446 |
| | $ | 36.904 |
|
| Canceled | (18,331 | ) | | $ | 57.197 |
| | (463 | ) | | $ | 14.881 |
| | (28,440 | ) | | $ | 10.080 |
|
| Exercised | (207,489 | ) | | $ | 11.520 |
| | (240,385 | ) | | $ | 11.886 |
| | (251,647 | ) | | $ | 10.559 |
|
| Outstanding at end of period | 630,847 |
| | $ | 29.312 |
| | 829,617 |
| | $ | 23.203 |
| | 940,610 |
| | $ | 14.163 |
|
| Exercisable at end of period | 456,802 |
| | $ | 18.316 |
| | 532,703 |
| | $ | 12.140 |
| | 621,559 |
| | $ | 10.269 |
|
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
The total estimated fair value of time vesting stock options granted werewas computed to be approximately $1.0 million, $3.2$1.6 million and $1.6$2.4 million during the years ended December 31, 2017, 20162021 and 2015,2020, respectively. The amounts are amortized ratably over the vestingrequisite service periods of the options. The weighted average estimated fair value per option of options granted was computed to be approximately $37.35, $24.59$82.77 and $11.35$28.66 during the years ended December 31, 2017, 20162021 and 2015,2020, respectively. The total intrinsic value of options exercised was $17.7$7.2 million, $9.9 million and $4.7$5.0 million during the years ended December 31, 2017, 20162022, 2021 and 2015,2020, respectively. The cash proceeds from options exercised was $1.8were $2.2 million, $1.9$3.3 million and $1.8$3.4 million during the years ended December 31, 2017, 20162022, 2021 and 2015,2020, respectively.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
The following table summarizes information about time vesting stock options outstanding and exercisable at December 31, 2017. |
| | | | | | | | | | | | | | | | |
| | | Options Outstanding | | Options Exercisable |
| Exercise Prices | | Number of
Options
Outstanding
at
December 31,
2017 | | Weighted
Average
Remaining
Contractual
Life in Years | | Weighted
Average
Exercise
Price | | Number of
Options
Exercisable
at
December 31,
2017 | | Weighted
Average
Exercise
Price |
| $ 4.40 - $ 6.90 | | 97,743 |
| | 2.68 | | $ | 5.404 |
| | 97,743 |
| | $ | 5.404 |
|
| $ 6.91 - $ 8.35 | | 132,096 |
| | 5.77 | | $ | 7.548 |
| | 132,096 |
| | $ | 7.548 |
|
| $ 8.36 - $18.13 | | 132,976 |
| | 6.18 | | $ | 14.456 |
| | 108,852 |
| | $ | 13.680 |
|
| $18.14 - $39.76 | | 144,683 |
| | 7.85 | | $ | 37.055 |
| | 90,388 |
| | $ | 35.785 |
|
| $39.77 - $108.25 | | 123,349 |
| | 9.02 | | $ | 78.497 |
| | 27,723 |
| | $ | 76.389 |
|
| $ 4.40 - $108.25 | | 630,847 |
| | 6.52 | | $ | 29.312 |
| | 456,802 |
| | $ | 18.316 |
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Options Outstanding | | Options Exercisable |
| Exercise Prices | | Number of
Options
Outstanding
| | Weighted
Average
Remaining
Contractual
Life in Years | | Weighted
Average
Exercise
Price | | Number of
Options
Exercisable
| | Weighted
Average
Remaining
Contractual
Life in Years | | Weighted
Average
Exercise
Price |
| $7.36 - $21.09 | | 36,148 | | | 1.41 | | $ | 12.49 | | | 36,148 | | | 1.41 | | $ | 12.49 | |
| $21.10 - $69.76 | | 89,717 | | | 6.11 | | $ | 54.97 | | | 89,717 | | | 6.11 | | $ | 54.97 | |
| $69.77 - $71.83 | | 80,851 | | | 5.33 | | $ | 69.81 | | | 80,851 | | | 5.33 | | $ | 69.81 | |
| $71.84 - $95.65 | | 86,131 | | | 5.80 | | $ | 79.59 | | | 86,131 | | | 5.80 | | $ | 79.59 | |
| $95.66 - $188.62 | | 47,191 | | | 7.05 | | $ | 131.51 | | | 29,815 | | | 6.46 | | $ | 116.40 | |
| $7.36 - $188.62 | | 340,038 | | | 5.48 | | $ | 70.84 | | | 322,662 | | | 5.34 | | $ | 66.18 | |
As of December 31, 2017,2022, there was approximately $3.5$0.8 million of total unrecognized compensation cost related to outstanding time vesting stock options. That cost is expected to be recognized over a weighted-average period of 2.11.1 years with all cost to be recognized by the end of December 2019,May 2024, assuming all options vest according to the vesting schedules in place at December 31, 2017.2022. As of December 31, 2017,2022, the aggregate intrinsic value of outstanding options was approximately $32.6$2.4 million and the aggregate intrinsic value of exercisable options was approximately $28.3$2.4 million.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Performance Stock Options
Our performance-based stock options are tied to either market-related vesting conditions or Company performance metrics, including future product launches, future sales targets, operating performance, and EBITDA.
A summary of our performance-based stock option activity is as follows:
| | | | | | | | | | | |
| | Year Ended December 31, |
| | 2022 |
| | Options | | Weighted Average Exercise Price |
| Outstanding at beginning of period | 254,800 | | | $ | 79.71 | |
| Granted at market | — | | | $ | — | |
| Forfeited | (5,000) | | | $ | 60.94 | |
| | | |
| Exercised | (5,000) | | | $ | 60.94 | |
| Outstanding at end of period | 244,800 | | | $ | 80.48 | |
| Exercisable at end of period | 93,750 | | | $ | 60.94 | |
The total estimated fair value of performance-based stock options granted was computed to be approximately $2.6 million and $6.0 million during the years ended December 31, 2021 and 2020, respectively. The weighted-average estimated fair value per option of options granted was computed to be approximately $75.62 and $25.04 during the years ended December 31, 2021 and 2020, respectively. As of December 31, 2022, the aggregate intrinsic value of outstanding options was approximately $0.3 million and the aggregate intrinsic value of exercisable options was approximately $0.1 million. As of December 31, 2022, there was approximately $0.4 million of total unrecognized compensation cost related to outstanding performance-based stock options that is expected to be recognized over a weighted-average period of 0.7 years.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Options Outstanding | | Options Exercisable |
| Exercise Prices | | Number of
Options
Outstanding
at
December 31,
2022 | | Weighted
Average
Remaining
Contractual
Life in Years | | Weighted
Average
Outstanding
Price | | Number of
Options
Exercisable
at
December 31,
2022 | | Weighted
Average
Remaining
Contractual
Life in Years | | Weighted
Average
Exercise
Price |
| $60.94 | | 210,000 | | | 7.29 | | $ | 60.94 | | | 93,750 | | | 7.29 | | $ | 60.94 | |
| $198.40 | | 34,800 | | | 3.44 | | $ | 198.40 | | | — | | | — | | | $ | — | |
| $60.94 - $198.40 | | 244,800 | | | 6.75 | | $ | 80.48 | | | 93,750 | | | 7.29 | | $ | 60.94 | |
As of December 31, 2022, we reviewed each of the underlying corporate performance targets and determined that approximately 75,000 shares were related to corporate performance targets of which we did not deem achievement probable. The unrecognized compensation cost associated with the performance options not deemed probable, based on grant date fair value, is approximately $1.9 million. Any change in the probability determination could accelerate the recognition of this expense.
Restricted Stock Awards and Units
We have granted unvested restricted stock awards and restricted stock units (collectively, “restricted stock”) to management and directors pursuant to the Stock Incentive Plan. The restricted stock awards and units have varying vesting periods, but generally become fully vested between one and seven years after the grant date, depending on the specific award, performance targets met for performance based awards granted to management, and vesting period for time based awards. Management performance based awards are granted
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
at the target amount of shares that may be earned and are tied to future sales targets, product development, profitability measures such as gross margin and operating profit, and/or non-GAAP measures such as EBITDA and adjusted EBITDA margin. We value the restricted stock awards and units related to service and/or company performance targets based on grant date fair value and expense over the period when achievement of those conditions is deemed probable. For restricted stock awards related to market conditions, we utilize a Monte Carlo simulation model to estimate grant date fair value and expense over the requisite period. We recognize forfeitures as they occur.
The following table summarizes restricted stock transactions for the year ended December 31, 2022:
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Restricted Stock Awards | | Restricted Stock Units |
| | Restricted Stock | | Weighted-Average Grant Date Fair Value Per Award | | Restricted Stock | | Weighted-Average Grant Date Fair Value Per Award |
| Non-vested as of December 31, 2021 | | 493,513 | | | $ | 141.98 | | | 6,000 | | | $ | 172.11 | |
| Granted | | 78,236 | | | $ | 115.91 | | | 26,173 | | | $ | 100.97 | |
| Vested | | (114,991) | | | $ | 90.57 | | | — | | | $ | — | |
| Forfeited | | (14,239) | | | $ | 91.17 | | | (243) | | | $ | 127.09 | |
| Non-vested as of December 31, 2022 | | 442,519 | | | $ | 152.36 | | | 31,930 | | | $ | 114.14 | |
The weighted average grant date fair value per share of awards granted during the year was $115.91, $207.24, and $87.29 for the years ended December 31, 2022, 2021 and 2020, respectively. Fair value of restricted stock vested was $15.8 million, $5.6 million, and $5.0 million for the years ended December 31, 2022, 2021 and 2020, respectively.
As of December 31, 2022, there was approximately $16.1 million and $2.1 million of total unrecognized compensation cost related to restricted stock awards and restricted stock units, respectively, with probable Company performance targets, as well as market and time vesting conditions. The Company expects to recognize this expense over a weighted average period of 1.7 years for restricted stock awards and 2.0 years for restricted stock units. As of December 31, 2022, we reviewed each of the underlying corporate performance targets and determined that approximately 222,000 shares of common stock for restricted stock awards and approximately 3,000 shares of common stock for restricted stock units were related to corporate performance targets of which we did not deem achievement probable. The unrecognized compensation cost associated with the restricted stock awards and restricted stock units not deemed probable, based on grant date fair value, is approximately $33.5 million and $0.6 million, respectively. Any change in the probability determination could accelerate the recognition of this expense.
Employee Stock Purchase Plan
Under the 19972020 Employee Stock Purchase Plan (the "ESPP"), we are authorized to issue up to 450,000200,000 shares of common stock to our employees, of which 419,65121,484 had been issued as of December 31, 2017. On May 5, 2015,2022. The ESPP provides for the issuance of shares of our shareholders approvedcommon stock to participating employees. At the amendmentend of each designated offering period, which occurs every six months on June 30 and restatementDecember 31, employees can elect to purchase shares of the ESPP, including a 75,000 share increase to 450,000 total shares authorized under the ESPP as well as changes discussed below as compared to the ESPP prior to the amendment and restatement. Employees who are expected to work at least 20 hours per week and 5 months per year are eligible to participate and can choose to haveour common stock with contributions of up to 10% of their compensation withheldbase pay, accumulated via payroll deductions, at an amount equal to purchase our stock under the ESPP when they choose to withhold a whole percentage of their compensation.
Beginning on July 1, 2013, our ESPP had a 27-month offering period and three-month accumulation periods ending on each March 31, June 30, September 30 and December 31. The purchase price of stock on March 31, June 30, September 30 and December 31 was the lesser of (1) 85% of the fair market value atlower of our stock price on (i) the timefirst trading day of purchase and (2) the greater of (i) 95% of the fair market value at the beginning of the applicable offering period, or (ii) 65%the last trading day of the fair market value at the time of purchase. In addition, participating employees may purchase shares under the ESPP at the beginning of an applicable offering period for a purchase price of stock equal to 95% of the fair market value at such time or at 5 pm on a day other than March 31, June 30, September 30 and December 31 during the applicable offering period for a purchase price of stock equal to 95% of the fair market value at purchase.period.
Beginning April 1, 2015, employees may elect to withhold a positive fixed amount from each compensation payment in addition to the previous approach of withholding a whole percentage of such compensation payment, with all withholding for a given employee subject to a maximum monthly amount of $2,500 following the amendment and restatement as opposed to a $25,000 maximum annual amount prior to the amendment and restatement. For offering periods beginning on or after April 1, 2015, the purchase price of stock on March 31, June 30, September 30 and December 31 is to be the lesser of (1) 85% of the fair
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
market value at the time of purchase and (2) the greater of (i) 85% of the fair market value at the beginning of the applicable offering period, (ii) the fair market value at the beginning of the applicable offering period less 1 cent and (iii) 65% of the fair market value at the time of purchase. In addition, participating employees may elect to purchase shares under the ESPP at the beginning of an applicable offering period for a purchase price of stock equal to the greater of (1) 85% of the fair market value at the beginning of the applicable offering period and (2) the fair market value at the beginning of the applicable offering period less 1 cent or at 5 pm on a day other than March 31, June 30, September 30 and December 31 during the applicable offering period for a purchase price of stock equal to the greater of (1) 85% of the fair market value at the time of purchase and (2) the fair market value at the time of purchase less 1 cent.
We issued 10,98312,188, 17,8265,437 and 16,6733,859 shares under the ESPP for the years ended December 31, 2017, 20162022, 2021 and 2015,2020, respectively.
For In the yearsyear ended December 31, 2017, 2016 and 2015,2020, we estimated the fair values of stock purchase rights grantedalso issued 6,210 shares under the ESPP using the Black-Scholes pricing model and the following weighted average assumptions:
|
| | | | |
| | 2017 | 2016 | | 2015 |
| Risk-free interest rate | 0.74% | 0.54% | | 0.27% |
| Expected lives | 1.2 years | 1.2 years | | 1.2 years |
| Expected volatility | 45% | 42% | | 36% |
| Expected dividend yield | 0% | 0% | | 0% |
a previous ESPP. The weighted-average fair value of the purchase rights granted was
$15.72, $8.23$14.43, $29.56 and
$6.25$16.19 per share for the years ended December 31,
2017, 20162022, 2021 and
2015,2020, respectively.
RestrictedSeries X Convertible Preferred Stock
On March 26, 2014, we30, 2020, the Company completed a private placement offering in which the Company issued 63,572and sold an aggregate of 122,000 shares of its Series X Convertible Preferred Stock, par value $0.01 per share (the "Preferred Stock"). The shares of Preferred Stock issued and sold were priced at $1,000 per share (the “Stated Value”), resulting in gross proceeds of $122.0 million, less issuance costs of $0.2 million. The Company used approximately $111.0 million of the proceeds from the offering to Robert B. Grieve, Ph.D., whofund the April 1, 2020 acquisition of scil and plans to use the remaining proceeds for working capital and general corporate purposes.
The offering was our Executive Chair,made pursuant to an employment agreement between Dr. Grieve and the Company effective as of March 26, 2014Securities Purchase Agreement (the "Grieve Employment Agreement"“Securities Purchase Agreement”). Of the 63,572 shares, 39,217 shares were issued from the 1997 Plan and 24,355 shares were issued from the 2003 Plan. The shares were issued in five tranches and were subject to time-based vesting and other provisions outlined in the Grieve Employment Agreement. All shares were to vest in full as of April 30, 2017. Effective on October 1, 2015, the Grieve Employment Agreement was terminated and, in connection therewith, the Company entered into a Separation and Release Agreement, dated as of October 1, 2015January 12, 2020, by and among the Company and certain investors, and subsequent amendment (the "Release Agreement"“Securities Purchase Agreement Amendment”) with Dr. Grieve. Pursuant to the ReleaseSecurities Purchase Agreement, entered into by the Company agreed to treatand each investor on March 30, 2020 (the Securities Purchase Agreement as amended by the terminationSecurities Purchase Agreement Amendment, the “Amended Securities Purchase Agreement”).
The shares of Preferred Stock were convertible into shares of the Grieve Employment Agreement asCompany’s Common Stock at an initial ratio of approximately 12.4 shares of Common Stock for each share of Preferred Stock (equivalent to a termination without cause, entitling Dr. Grieve toconversion price of approximately $80.85 per share of common stock), at the immediate vesting of 55,715 shares, 14,373 of which were withheld for tax purposes. As a resultoption of the terminationholders of the Grieve Employment Agreement, and as acknowledged inPreferred Stock or the Release Agreement, effective October 1, 2015, Dr. Grieve began serving as a consultantCompany, subject to the Company pursuant to the Consulting Agreement (Founder Emeritus) dated aspossessing sufficient unissued and otherwise unreserved shares of March 26, 2014 (the "Consulting Agreement"). The remaining 7,857 shares issued to Dr. Grieve on March 26, 2014 vested on April 30, 2016, of which 2,525 shares were withheld for tax purposes.
On March 26, 2014, we issued 110,000 shares to Mr. Wilson from the 1997 Plan pursuant to an employment agreement between Mr. Wilson and the Company effective as of March 26, 2014 (the "Wilson Employment Agreement"). The shares were issued in four equal tranches and are subject to time-based vesting and other provisions outlined in the Wilson Employment Agreement. The first tranche vested on September 26, 2014, and each of the three remaining tranches were to vest on the succeeding March 26 until all shares were vested in full as of March 26, 2017. On May 6, 2014, we issued an additional 130,000 shares
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
to Mr. Wilson following a vote of approval on the issuance by our stockholders. The shares were issued in ten equal tranches, five of which were subject to vesting based on the achievement of certain stock price targets as defined and further described in the Wilson Employment Agreement and five of which were subject to vesting based on certain "Adjusted EBITDA" targets as defined and further described in the Wilson Employment Agreement. All shares subject to vesting based on "Adjusted EBITDA" vested based on our 2014 performance. Of the five tranches based on the achievement of certain stock price targets, one vested in 2014 and the remaining four vested in 2015.
On March 17, 2015, the Company issued unvested shares to certain Executive Officers related to performance-based restricted stock grants (the "Performance Grants") and performance-based restricted stock grants related to the Company's 2015 Management Incentive Plan (the "2015 MIP Grants"). The Company issued 52,956 sharesCommon Stock under the Performance Grants and 24,649 shares under the 2015 MIP Grants from the 1997 Plan. The Performance Grants have met the underlying performance condition based on the Company's 2015 financial performance and are to cliff vest on March 17, 2018, subject to other vesting provisions in the underlying restricted stock grant agreement. The 2015 MIP Grants were subject to the Company’s achievement of certain financial goals and other vesting provisions in the underlying restricted stock grant agreement. On March 2, 2016, the Company vested 14,364 shares related to the 2015 MIP Grants based on the respective performance criteria, including 4,788 shares withheld for tax, and canceled the remaining 10,285 shares. The compensation expense is based on the closing market price on the date of the grant.
On March 2, 2016, the Company issued 15,000 unvested shares to certain Executive Officers related to performance-based restricted stock grants as part of the Company’s 2016 Management Incentive Plan (the "2016 MIP Grants") from the 1997 Plan. Of these, 14,629 vested, 371 were forfeited, and 4,133 were withheld for tax. The 2016 MIP Grants vested during the three months ended March 31, 2017. The compensation expense is based on the closing market price on the date of the grant.
On May 1, 2017, the Company issued 2,720 shares of our Common Stock to the Company's non-employee directors from the 2003 Plan, with a subsequent grant of 567 shares to a new non-employee director on June 12, 2017 from the 2003 Plan. These grants are to vest (the "Vesting Time") in full on the latter of (i) the one year anniversary of the date of grant and (ii) the Company’s Annual Meeting of Stockholders for the year following the year of grant for the award (the "Vesting Meeting"), subject to (i) the non-employee director's continued service to the Company through the Vesting Time, unless the non-employee director’s current term expires at the Vesting Meeting in which case vesting is subject to the non-employee director’s service to the Vesting Meeting and (ii) the non-employee director not engaging in “competition”, as defined in a restricted stock grant agreement executed by the non-employee director, to the Vesting Time. The compensation expense is based on the closing market price on the date of the grant.
On May 31, 2017, the Company issued 23,700 unvested performance-based restricted stock shares to certain key employees from the 1997 Plan. The vesting of these shares is subject to the achievement of certain Company performance and market conditions and, in some instances, a service period requirement, that must be met on or before May 30, 2024. For the four tranches related to performance conditions, the compensation expense is based on the closing market price on the date of the grant, $98.66. The award is expensed when the performance condition is considered probable and taken ratably over the period in which the performance metrics are expected to be achieved. For the six tranches related to market conditions, which include stock price targets and outperformance of the S&P, the compensation expense is based on a fair value assigned to the market metric upon grant using a Monte Carlo model, weighted average value of $69.06, which remains constant throughout the vesting period, also determined within the model.
On June 15, 2017, the Company issued 6,594 unvested shares to certain Executive Officers related to performance-based restricted stock grants as part of the Company's 2017 Management Incentive Plan from
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
the 1997 Plan. As of December 31, 2017, all shares were forfeited and no compensation expense was recorded for the period ended December 31, 2017.
On December 1, 2017, the Company issued 45,000 unvested performance-based restricted stock shares from the 1997 Plan to Mr. Wilson. The vesting of these shares is subject to the achievement of certain Company performance and market conditions and, in some instances, a service period requirement, that must be met on or before March 31, 2025. For the three tranches (equal tranches of 9,375 restricted shares) related to performance conditions, the compensation expense is based on the closing market price on the date of the grant, $86.32. The award is expensed when the performance condition is considered probable and taken ratably over the period in which the performance metrics are expected to be achieved. For the three tranches (equal tranches of 5,625 restricted shares) related to market conditions, which include stock price targets, the compensation expense is based on a fair value assigned to the market metric upon grant using a Monte Carlo model, weighted average value of $72.95, which remains constant throughout the vesting period, which is also determined within the model.
As of December 31, 2017, there was approximately $3.2 million of total unrecognized compensation cost related to restricted stock. The Company expects to recognize this expense over a weighted average period of 1.4 years.
Restrictions on the transfer of Company stock
The Company's Restated Certificate of Incorporation, as amended (the "Certificate“Certificate of Incorporation"Incorporation”), places restrictions. On April 14, 2020, the Company gave notice of its exercise of its right to convert the 122,000 shares of Preferred Stock into 1,508,964 shares of Public Common Stock (the "Transfer Restrictions""Conversion Shares") and the conversion was effective on the transferApril 21, 2020. The conversion resulted in dilution of less than 20% of total shares of the Company'sCompany’s Public Common Stock currently issued and outstanding. A registration statement on Form S-3 (File No. 333-238005) registering the Conversion Shares for resale was filed by us with the SEC on May 5, 2020.
2021 Equity Offering
On March 5, 2021, the Company completed a public offering of 940,860 shares of common stock, that could adversely affect$0.01 par value per share, at a public offering price of $186.00 per share. The Company received net proceeds of approximately $164.2 million after deducting underwriting discounts and commissions and issuance costs. The Company granted the Company's abilityunderwriters an option to utilize its domestic Federal Net Operating Loss Position. In particular,purchase up to an additional 141,129 shares of common stock from the Transfer Restrictions preventCompany at the transferoffering price of shares without$186.00 per share (less the approvalunderwriting discounts and commissions), within 30 days of the Company's Board of Directors if, as a consequence of such transfer, an individual, entity or groups of individuals or entities would become a 5-percent holder under Section 382Prospectus Supplement dated March 2, 2021. The Company evaluated the accounting treatment of the Internal Revenue Code of 1986, as amended,option under ASC 815-40, Derivatives and Hedging - Contracts on an Entity's Own Equity, and determined that it met the related Treasury regulations,criteria for equity treatment thereunder. The underwriters’ option was not exercised and also prevents any existing 5-percent holder from increasing his or her ownership position inexpired on April 1, 2021. The Company is using the Company without the approvalnet proceeds of the Company's Boardoffering for general corporate purposes, including working capital, further development and potential commercialization of Directors. Any transfer of shares in violationcurrent and future product initiatives, collaborations, and capital expenditures. The Company may also use a portion of the Transfer Restrictions (a "Transfer Violation") shall be void ab initio undernet proceeds of this offering to fund possible investments in or acquisitions of complementary businesses, products or technologies, or to repay indebtedness. See the CertificateConsolidated Statements of Incorporation, and the Company's Board of Directors has procedures under the Certificate of Incorporation to remedy a Transfer Violation including requiring the shares causing such Transfer Violation to be sold and any profit resulting from such sale to be transferred to a charitable entity chosen by the Company's Board of Directors in specified circumstances.Cash Flows for further details regarding investing activities completed thus far.
10.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
13. ACCUMULATED OTHER COMPREHENSIVE INCOME
Accumulated other comprehensive income (loss) consisted of the following (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | |
| Pension Adjustments | | Foreign Currency Translation1 | | Foreign Currency Gain on Intra-Entity Transactions2 | | Total Accumulated Other Comprehensive Income |
| Balances at December 31, 2020 | $ | (386) | | | $ | 5,872 | | | $ | 8,683 | | | $ | 14,169 | |
| Other comprehensive income (loss) | 107 | | | (3,898) | | | (5,341) | | | (9,132) | |
| Balances at December 31, 2021 | (279) | | | 1,974 | | | 3,342 | | | 5,037 | |
| Other comprehensive income (loss) | 99 | | | (6,874) | | | (4,768) | | | (11,543) | |
| Balances at December 31, 2022 | $ | (180) | | | $ | (4,900) | | | $ | (1,426) | | | $ | (6,506) | |
|
| | | | | | | | | | | | | | | |
| | Minimum pension liability | | Foreign currency translation | | Sale of equity investment | | Total accumulated other comprehensive income |
| Balances at December 31, 2015 | $ | (576 | ) | | $ | 673 |
| | $ | 90 |
| | $ | 187 |
|
| Other comprehensive income (loss) | 75 |
| | (75 | ) | | (90 | ) | | (90 | ) |
| Balances at December 31, 2016 | (501 | ) | | 598 |
| | — |
| | 97 |
|
| Other comprehensive income (loss) | 12 |
| | 123 |
| | — |
| | 135 |
|
| Balances at December 31, 2017 | $ | (489 | ) | | $ | 721 |
| | $ | — |
| | $ | 232 |
|
1 Foreign currency gains and losses related to translation of foreign subsidiary financial statements.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
11.COMMITMENTS AND CONTINGENCIES
The Company holds certain rights to market and manufacture all products developed or created under certain research, development and licensing agreements with various entities. In connection with such agreements, the Company has agreed to pay the entities royalties on net product sales. Royalties of $0.3 millionbecame payable under these agreements in the year ended December 31, 2017, and $0.4 million in each of the years ended December 31, 2016 and 2015.
2The Company has entered into operating leases for its office and research facilities and certain equipment with future minimum payments asintercompany loans of December 31, 2017 as follows (in thousands):
|
| | | |
| Year Ending December 31, | |
| 2018 | $ | 2,156 |
|
| 2019 | 2,035 |
|
| 2020 | 1,835 |
|
| 2021 | 1,747 |
|
| 2022 | 1,714 |
|
| Thereafter | 1,617 |
|
| | $ | 11,104 |
|
The Company had rent expensea long-term investment nature that are denominated in a foreign currency. These transactions are considered to be of $1.6 million in each of the years ended December 31, 2017, 2016, and 2015.
From time to time, the Company may be involved in litigation relating to claims arising out of its operations. On March 12, 2015, a complaint was filed against us by Shaun Fauleylong-term nature if settlement is not planned or anticipated in the United States District Court Northern District of Illinois alleging our transmittal of unauthorized faxes in violation of the federal Telephone Consumer Protection Act of 1991, as amended by the Junk Fax Prevention Act of 2005, as a class action seeking stated damages of the greater of actual monetary loss or five hundred dollars per violation ("Fauley Complaint"). The Company does not have insurance coverage for the Fauley Complaint. The Company intends to defend itself vigorously in this matter and at this time is unable to estimate a possible loss or a range of loss. At December 31, 2017, the Company was not a party to any other legal proceedings that were expected, individually or in the aggregate, to have a material adverse effect on our business, financial condition or operating results.foreseeable future.
14.COMMITMENTS AND CONTINGENCIES
Warranties
The Company's current terms and conditions of sale include a limited warranty that its products and services will conform to published specifications at the time of shipment and a more extensive warranty related to certain of its products. The Company also sells a renewal warranty for certain of its products. The typical remedy for breach of warranty is to correct or replace any defective product, and if not possible or practical, the Company will accept the return of the defective product and refund the amount paid.product. Historically, the Company has incurred minimal warranty costs. The Company's warranty reserve was $0.2$0.3 million and $0.4$0.5 million as of December 31, 20172022 and 2016, respectively.2021.
Litigation
From time to time, the Company may be involved in litigation relating to claims arising out of its operations. The Company records accruals for outstanding legal matters when it believes it is probable that a loss will be incurred, and the amount can be reasonably estimated.
On February 18, 2020, a former managing director of scil filed a claim disputing the effective date of the termination of his management service agreement and the validity of the Company´s waiver of his two-year post-contractual non-compete obligation. The Company defended itself from the claim but ultimately reached a settlement agreement and paid $0.8 million to the defendant on April 28, 2022. The Company is indemnified by the scil acquisition agreement for this claim.
At December 31, 2022, the Company was not a party to any other legal proceedings that were expected, individually or in the aggregate, to have a material adverse effect on our business, financial condition or operating results.
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- (Continued)
Global Supply and Licensing Agreement
12.
On March 28, 2022, the Company entered into a global supply and licensing agreement with VolitionRx Limited (“Volition”) to adapt and commercialize the Nu.Q® Vet Cancer Screening Test at the POC for canines and felines on Heska’s technology. On March 30, 2022, the Company made an upfront milestone payment of $10 million to Volition in exchange for exclusive rights to develop the Nu.Q® Vet Cancer Screening Test for the POC and non-exclusive rights for central reference lab testing. The $10 million payment was expensed to Research and development on the Consolidated Statements of Loss for the year ended December 31, 2022. The Company is obligated to pay an additional $13 million on or before December 31, 2024, if certain milestones are met, or to obtain an extended timeline to meet those milestones. If those milestones are not met by the agreed upon extension, the agreement may be terminated. However, if the $13 million milestones are met, the agreement will have a total term of 22 years for exclusivity in POC testing. If the first milestones are met and the agreement does not terminate, there will be another $5 million payment due upon the achievement of an additional milestone within the remaining term of the agreement. These potential future milestone payments have not yet been accrued, as the Company has not deemed them probable at this time.
Off-Balance Sheet Commitments
We have no off-balance sheet arrangements. Refer to Note 4 for discussion of our variable interest entity.
Purchase Obligations
The Company has contractual obligations with suppliers for unconditional annual minimum inventory purchases through 2026 in the aggregate amount of $55.3 million as of December 31, 2022.
15. INTEREST AND OTHER EXPENSE, (INCOME)NET
Interest and other expense, (income)net, consisted of the following (in thousands):
| | | | | | | | | | | | | | | | | |
| | Year Ended December 31, |
| | 2022 | | 2021 | | 2020 |
| Interest income | $ | (3,578) | | | $ | (1,797) | | | $ | (607) | |
| Interest expense | 4,191 | | | 4,201 | | | 6,374 | |
| Other expense (income), net | 923 | | | 44 | | | (166) | |
| Interest and other expense, net | $ | 1,536 | | | $ | 2,448 | | | $ | 5,601 | |
|
| | | | | | | | | | | |
| | Year Ended December 31, |
| | 2017 | | 2016 | | 2015 |
| Interest income | $ | (167 | ) | | $ | (124 | ) | | $ | (172 | ) |
| Interest expense | 245 |
| | 160 |
| | 200 |
|
| Other expense (income), net | (228 | ) | | (7 | ) | | 102 |
|
| | $ | (150 | ) | | $ | 29 |
| | $ | 130 |
|
Cash paid for interest was $206 thousand, $78 thousand$4.3 million, $3.3 million and $90 thousand$3.2 million for the years ended December 31, 2017, 20162022, 2021 and 2015,2020, respectively.
13. CREDIT FACILITY AND LONG-TERM DEBT16. CONVERTIBLE NOTES
Convertible Notes
On July 27, 2017, we entered into a Credit AgreementSeptember 17, 2019, the Company issued $86.25 million aggregate principal amount of 3.750% Convertible Senior Notes due 2026 (the "Credit Agreement") with JPMorgan Chase Bank, N.A. ("Chase""Notes"), which provides for a revolving credit facilityincluded the exercise in full of up to $30.0an $11.25 million (the "Credit Facility"). The Credit Facility provides us with the ability to borrow up to $30.0 million, although the amount of the Credit Facility may be increased by an additional $20.0 million up to a total of $50.0 million subject to receipt of additional lender commitments and other conditions. Any interest on borrowings due is to be charged at either the (i) rate of interest per annum publicly announced from time to time by Chase at its prime rate in effect at its principal offices in New York City, subject to a floor, minus 1.65%, or (ii) the interest rate per annum equal to (a) LIBOR for the interest period in effect multiplied by (b) Chase's Statutory Reserve Rate (as defined in the Credit Agreement), plus 1.10% and payable monthly. There is an annual minimum interest charge of $60 thousand under the Credit Agreement. Borrowings under the Credit Facility are subjectpurchase option, to certain financial and non-financial covenants and are available for various corporate purposes, including general working capital, capital investments, and certain permitted acquisitions. The Credit Agreement also permits us to issue letters of credit. The maturity dateinstitutions as the initial purchasers of the Credit Facility is July 27, 2020.Notes (the "Initial Purchasers"). The foregoing discussionNotes are senior unsecured obligations of the Credit Facility is a summary only and is qualified in its entirety by referenceCompany. The Notes were issued pursuant to the full text of the Credit Agreement, a copy of which has been filed as an exhibit to the Company's Current Report on Form 8-K filed with the SEC on August 2, 2017. At December 31, 2017, we had $6.0 million of borrowings outstanding on this line of credit and we were in compliance with all financial covenants. In connection with the Credit Agreement,Indenture, dated September 17, 2019 (the “Indenture”), between the Company incurred debt issuance costs of $120 thousand. These costs are included in other non-current assets on the Company's consolidated balance sheet, and will be amortized to interest expense ratably over the term of the agreement.U.S. Bank National Association, as trustee.
Concurrent with the Credit Agreement, we repaid all outstanding balances and closed our $15.0 million asset-based revolving line of credit with Wells Fargo, which had a maturity date of December 31, 2017. Our outstanding balance under this arrangement at December 31, 2016 was $0.7 million. Our ability to borrow under this line of credit varied based upon available cash, eligible accounts receivable and eligible inventory. On December 31, 2016, any interest on borrowings due was to be charged at a stated rate of three month LIBOR plus 2.25% and payable monthly. Under this agreement, we were required to comply with various financial and non-financial covenants, and we have made various representations and warranties under our agreement with Wells Fargo. A key financial covenant was based on a fixed charge coverage ratio, as defined in our agreement with Wells Fargo. Failure to comply with any of the covenants, representations or warranties could result in our being in default on the loan and could cause all outstanding amounts payable to Wells Fargo to become immediately due and payable or impact our ability to borrow under the agreement.
None.
Our management, with the participation of our principal executive officer and our principal financial officer, evaluated the effectiveness of our disclosure controls and procedures, as defined by Rule 13a-15 of the Exchange Act, as of December 31, 2017.2022. Based on this evaluation, our principal executive officer and principal financial officer have concluded that our disclosure controls and procedures were 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 period specified in the SEC's rules and forms and that such information is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding disclosure.
Our management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act. Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, the Company conducted an evaluation of the effectiveness of its internal control over financial reporting based on criteria set forth in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on this evaluation, the Company's management has concluded that the Company's internal control over financial reporting was effective as of December 31, 2017.2022.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risks that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Accordingly, even an effective system of internal control will provide only reasonable assurance that the objectives of the internal control system are met.
Certain information required by Part III is incorporated by reference to our definitive Proxy Statement to be filed with the Securities and Exchange CommissionSEC in connection with the solicitation of proxies for our 20182023 Annual Meeting of Stockholders.
The information required by this item with respect to executive officers is incorporated by reference to Item 1 of this report and can be found under the caption "Executive Officers of the Registrant."Information About Our Executive Officers."
The information required by this section with respect to our directors will be incorporated by reference to the information in the sections entitled Proposal No. 1 "Election of Directors" and "Section 16(a) Beneficial Ownership Reporting Compliance" in the Proxy Statement.
The information required by this section with respect to our Audit Committee will be incorporated by reference to the information in the section entitled "Board Structure and Committees" in the Proxy Statement.
The information required by this section will be incorporated by reference to the information in the sections entitled "Director Compensation," "Executive Compensation," "Compensation Committee Report" and "Compensation Committee Interlocks and Insider Participation" in the Proxy Statement.
The other information required by this section will be incorporated by reference to the information in the section entitled "Ownership of Securities - Common Stock Ownership of Certain Beneficial Owners and Management" in the Proxy Statement.
