10-Q 1 establishmentlabs10q_2019q2.htm 10-Q Document
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
(Mark One) 
x    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2019
OR
¨    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ___________ to ___________
Commission File Number: 001-38593
Establishment Labs Holdings Inc.
(Exact name of Registrant as specified in its charter)
British Virgin Islands

 
Not applicable
State or Other Jurisdiction of
Incorporation or Organization
 
I.R.S. Employer Identification No.
 
 
 
Building B15 and 25
Coyol Free Zone
Alajuela
Costa Rica
 
Not applicable
Address of Principal Executive Offices
 
Zip Code

 
 
+506 2434 2400
 
 
Registrant’s Telephone Number, Including Area Code

 
 
 
 
 
 
 
Not applicable
 
 
Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report
 
 
 
 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x    No ¨
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).  Yes x  No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ¨
 
Accelerated filer ¨
Non-accelerated filer x
 
Smaller reporting company x
Emerging growth company x
 
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ¨ 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).  Yes ¨    No x
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading symbol
Name of each exchange on which registered
Common Shares, No Par Value
ESTA
The NASDAQ Capital Market
The number of the registrant’s common shares outstanding as of August 12, 2019 was 20,499,866.



TABLE OF CONTENTS
 
 
Page
 
 
 
 
 
 



i


EXPLANATORY NOTE

In this report, unless the context indicates otherwise, the terms “Establishment Labs,” “Company,” “we”, “us” and “our” refer to Establishment Labs Holdings Inc., a British Virgin Islands entity, and its consolidated subsidiaries.
We own, or have rights to, trademarks and trade names that we use in connection with the operation of our business, including Establishment Labs and our logo as well as other brands such as Motiva Implants, SilkSurface/SmoothSilk, VelvetSurface, ProgressiveGel, TrueMonobloc, BluSeal, Divina, Ergonomix and MotivaImagine, among others. Other trademarks and trade names appearing in this report are the property of their respective owners. Solely for your convenience, some of the trademarks and trade names referred to in this report are listed without the ® and TM symbols, but we will assert, to the fullest extent under applicable law, our rights to our trademarks and trade names.

SPECIAL NOTE ABOUT FORWARD-LOOKING STATEMENTS
This report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). You can find many (but not all) of these statements by looking for words such as “approximates,” “believes,” “expects,” “anticipates,” “estimates,” “intends,” “plans,” “would,” “may” or other similar expressions in this report. Any statements that refer to projections of our future financial or operating performance, anticipated trends in our business, our goals, strategies, focus and plans, and other characterizations of future events or circumstances, including statements expressing general optimism about future operating results, are forward-looking statements.
We claim the protection of the safe harbor contained in the Private Securities Litigation Reform Act of 1995. We caution investors that any forward-looking statements presented in this report, or that we may make orally or in writing from time to time, are expressions of our beliefs and expectations based on currently available information at the time such statements are made. Such statements are based on assumptions, and the actual outcome will be affected by known and unknown risks, trends, uncertainties and factors that are beyond our control. Although we believe that our assumptions are reasonable, they are not guarantees of future performance, and some will inevitably prove to be incorrect. As a result, our actual future results may differ from our expectations, and those differences may be material.
Factors that could cause or contribute to these differences include, among others, those risks and uncertainties discussed under the sections contained in this Form 10-Q entitled “Part I, Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Part I, Item 3. Quantitative and Qualitative Disclosures about Market Risk,” and “Part II, Item 1A. Risk Factors”, and our other filings with the Securities and Exchange Commission. The risks included in those documents are not exhaustive, and additional factors could adversely affect our business and financial performance. We operate in a very competitive and rapidly changing environment. New risk factors emerge from time to time, and it is not possible for us to predict all such risk factors, nor can we assess the impact of all such risk factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements.
We are not undertaking any obligation to update any forward-looking statements. Accordingly, investors should use caution in relying on past forward-looking statements, which are based on known results and trends at the time they are made, to anticipate future results or trends.

1

ESTABLISHMENT LABS HOLDINGS INC.
Condensed Consolidated Balance Sheets
(In thousands, except share data)

PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
 
 
 
 
 
June 30,
2019
 
December 31,
2018
 
(Unaudited)
 
 
Assets
 
 
 
Current assets:
 
 
 
Cash
$
31,870

 
$
52,639

Accounts receivable, net of allowance for doubtful accounts of $902 and $926
21,312

 
17,648

Inventory
26,540

 
24,845

Prepaid expenses and other current assets
4,455

 
4,303

Total current assets
84,177

 
99,435

Long-term assets:
 
 
 
Property and equipment, net of accumulated depreciation
16,708

 
12,913

Goodwill
465

 
465

Intangible assets, net of accumulated amortization
3,081

 
3,445

Other non-current assets
370

 
315

Total assets
$
104,801

 
$
116,573

Liabilities and shareholders’ equity



Current liabilities:



Accounts payable
$
8,531


$
6,239

Accrued liabilities
8,718


6,125

Other liabilities, short term
4,137


4,083

Total current liabilities
21,386


16,447

Long-term liabilities:



Note payable, Madryn, net of debt discount and issuance costs
24,053


22,322

Madryn put option
2,160


4,768

Other liabilities, long term
3,415


3,551

Total liabilities
51,014


47,088

Commitments and contingencies (Note 7)

 

Shareholders’ equity:
 
 
 
Common shares - zero par value, unlimited amount authorized; 20,882,419 and 20,672,025 shares issued at June 30, 2019 and December 31, 2018, respectively; 20,474,349 and 20,263,955 shares outstanding at June 30, 2019 and December 31, 2018, respectively
146,433

 
145,709

Additional paid-in-capital
18,640

 
15,156

Treasury shares, at cost, 408,070 shares held at June 30, 2019 and December 31, 2018
(2,854
)
 
(2,854
)
Accumulated deficit
(108,794
)
 
(88,975
)
Accumulated other comprehensive income
362

 
449

Total shareholders’ equity
53,787

 
69,485

Total liabilities and shareholders’ equity
$
104,801

 
$
116,573

 
 
 
 

The accompanying notes are an integral part of these condensed consolidated financial statements.

2

ESTABLISHMENT LABS HOLDINGS INC.
Condensed Consolidated Statements of Operations
(In thousands, except share and per share data)
(Unaudited)

 
 
 
 
 
 
 
 
 
 
 
Three Months Ended
June 30,
 
Six Months Ended
June 30,
 
 
2019
 
2018
 
2019
 
2018
Revenue
 
$
21,684

 
$
13,709

 
$
42,462

 
$
28,525

Cost of revenue
 
8,672

 
5,492

 
18,198

 
12,393

Gross profit
 
13,012

 
8,217

 
24,264

 
16,132

Operating expenses:
 
 
 
 
 
 
 
 
Sales, general and administrative
 
18,394

 
10,829

 
34,450

 
19,477

Research and development
 
4,001

 
3,705

 
7,585

 
5,852

Total operating expenses
 
22,395

 
14,534

 
42,035

 
25,329

Loss from operations
 
(9,383
)
 
(6,317
)
 
(17,771
)
 
(9,197
)
Interest income
 
4

 

 
10

 
4

Interest expense
 
(2,521
)
 
(2,173
)
 
(4,763
)
 
(4,344
)
Change in fair value of derivative instruments
 
2,640

 
5,830

 
2,608

 
4,525

Change in fair value of contingent consideration
 
137

 
(389
)
 
362

 
(752
)
Other income (expense), net
 
118

 
(2,159
)
 
(186
)
 
(1,964
)
Loss before income taxes
 
(9,005
)
 
(5,208
)
 
(19,740
)
 
(11,728
)
Provision for income taxes
 
(35
)
 
(152
)
 
(79
)
 
(162
)
Net loss
 
$
(9,040
)
 
$
(5,360
)
 
$
(19,819
)
 
$
(11,890
)
 
 
 
 
 
 
 
 
 
Basic and diluted net loss per share
 
$
(0.44
)
 
$
(0.35
)
 
$
(0.97
)
 
$
(0.79
)
Weighted average outstanding shares used for basic and diluted net loss per share
 
20,448,643

 
15,351,899

 
20,407,912

 
14,981,070

 
 
 
 
 
 
 
 
 


The accompanying notes are an integral part of these condensed consolidated financial statements.

3


ESTABLISHMENT LABS HOLDINGS INC.
Condensed Consolidated Statements of Comprehensive Income (Loss)
(In thousands)
(Unaudited)

 
 
 
 
 
 
 
 
 
Three Months Ended
June 30,
 
Six Months Ended
June 30,
 
2019
 
2018
 
2019
 
2018
Net loss
$
(9,040
)
 
$
(5,360
)
 
$
(19,819
)
 
$
(11,890
)
Other comprehensive income (loss):
 
 
 
 
 
 
 
Foreign currency translation gain (loss)
(154
)
 
529

 
(87
)
 
523

Other comprehensive gain (loss)
(154
)
 
529

 
(87
)
 
523

Comprehensive loss
$
(9,194
)
 
$
(4,831
)
 
$
(19,906
)
 
$
(11,367
)
 
 
 
 
 
 
 
 

The accompanying notes are an integral part of these condensed consolidated financial statements.

4

ESTABLISHMENT LABS HOLDINGS INC.
Condensed Consolidated Statement of Shareholders’ Equity
(Unaudited) (In thousands, except share data)


 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Common Shares
 
Treasury Shares
 
Additional
Paid-In
Capital
 
Accumulated
Deficit
 
Accumulated Other Comprehensive Income
 
Total
 
 
Shares
 
Amount
 
Shares
 
Amount
 
 
 
 
Balance at January 1, 2019
 
20,672,025

 
$
145,709

 
(408,070
)
 
$
(2,854
)
 
$
15,156

 
$
(88,975
)
 
$
449

 
$
69,485

Issuance of shares in an asset acquisition
 
12,404

 
337

 

 

 

 

 

 
337

Stock option exercises
 
5,941

 
84

 

 

 

 

 

 
84

Warrant exercises
 
70,567

 
113

 
 
 
 
 
(57
)
 
 
 
 
 
56

Share-based compensation
 
45,394

 
45

 


 


 
1,791

 
 
 
 
 
1,836

Shares withheld to cover income tax obligation upon vesting of restricted stock
 
(2,528
)
 
(3
)
 


 


 
(53
)
 
 
 
 
 
(56
)
Foreign currency translation gain (loss)
 

 

 

 

 

 

 
67

 
67

Net loss
 

 

 

 

 

 
(10,779
)
 

 
(10,779
)
Balance at March 31, 2019
 
20,803,803

 
146,285

 
(408,070
)
 
(2,854
)
 
16,837

 
(99,754
)
 
516

 
61,030

Stock option exercises
 
22,289

 
92

 

 

 

 

 

 
92

Warrant exercises
 
16,754

 
16

 

 

 
(16
)
 

 

 

Share-based compensation
 
41,024

 
41

 

 

 
1,853

 

 

 
1,894

Shares withheld to cover income tax obligation upon vesting of restricted stock
 
(1,451
)
 
(1
)
 

 

 
(34
)
 

 

 
(35
)
Foreign currency translation gain (loss)
 

 

 

 

 

 

 
(154
)
 
(154
)
Net loss
 

 

 

 

 

 
(9,040
)
 

 
(9,040
)
Balance at June 30, 2019
 
20,882,419

 
$
146,433

 
(408,070
)
 
$
(2,854
)
 
$
18,640

 
$
(108,794
)
 
$
362

 
$
53,787

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

The accompanying notes are an integral part of these condensed consolidated financial statements.

5

ESTABLISHMENT LABS HOLDINGS INC.
Condensed Consolidated Statement of Shareholders’ Equity
(Unaudited) (In thousands, except share data)


 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Ordinary Shares
 
Treasury Shares
 
Additional
Paid-In
Capital
 
Accumulated
Deficit
 
Accumulated Other Comprehensive Income
 
Total
 
 
Shares
 
Amount
 
Shares
 
Amount
 
 
 
 
Balance at January 1, 2018
 
15,743,705

 
$
41,267

 
(1,221,210
)
 
$
(6,465
)
 
$
27,986

 
$
(67,877
)
 
$
76

 
$
(5,013
)
Issuance of ordinary shares
 
100,615

 
1,610

 

 

 

 

 

 
1,610

Stock option exercises
 
106,248

 
106

 

 

 
330

 

 

 
436

Share-based compensation
 
42,025

 
42

 

 

 
701

 

 

 
743

Foreign currency translation gain (loss)
 

 

 

 

 

 

 
(6
)
 
(6
)
Net loss
 

 

 

 

 

 
(6,530
)
 

 
(6,530
)
Balance at March 31, 2018
 
15,992,593

 
43,025

 
(1,221,210
)
 
(6,465
)
 
$
29,017

 
$
(74,407
)
 
$
70

 
$
(8,760
)
Issuance of ordinary shares
 
910,559

 
14,570

 

 

 
(78
)
 

 

 
14,492

Stock option exercises
 

 

 

 

 

 

 

 

Share-based compensation
 
55,232

 
55

 

 

 
1,415

 

 

 
1,470

Foreign currency translation gain (loss)
 

 

 

 

 

 

 
529

 
529

Net loss
 

 

 

 

 

 
(5,360
)
 

 
(5,360
)
Balance at June 30, 2018
 
16,958,384

 
$
57,650

 
(1,221,210
)
 
$
(6,465
)
 
$
30,354

 
$
(79,767
)
 
$
599

 
$
2,371

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 



The accompanying notes are an integral part of these condensed consolidated financial statements.

6

ESTABLISHMENT LABS HOLDINGS INC.
Condensed Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)

 
 
 
 
 
 
 
Six Months Ended June 30,
 
 
2019
 
2018
Cash flows from operating activities:
 
 
 
 
Net loss
 
$
(19,819
)
 
$
(11,890
)
Adjustments to reconcile net loss to net cash used in operating activities:
 
 
 
 
Depreciation and amortization
 
1,416

 
1,345

Bad debt recovery
 
(17
)
 
(65
)
Provision for inventory obsolescence

 
(22
)
 

Share-based compensation
 
3,730

 
2,213

Loss from disposal of property and equipment
 
24

 

Unrealized foreign currency (gain) loss, net
 
67

 

Change in fair value of derivative instruments
 
(2,608
)
 
(4,525
)
Change in fair value of contingent consideration
 
(362
)
 
752

Amortization of debt discount

 
1,731

 
1,663

Changes in operating assets and liabilities:
 
 
 
 
Accounts receivable
 
(3,715
)
 
(3,660
)
Inventory
 
(725
)
 
(1,007
)
Prepaid expenses and other current assets
 
(234
)
 
(1,417
)
Other assets
 
(56
)
 
(799
)
Accounts payable
 
2,413

 
(487
)
Accrued liabilities
 
2,709

 
2,694

Other liabilities
 
407

 
273

Net cash used in operating activities
 
(15,061
)
 
(14,910
)
Cash flows from investing activities:
 
 
 
 
Purchases of property and equipment
 
(4,882
)
 
(698
)
Cash used in asset acquisition

 
(767
)
 

Cost incurred for intangible assets
 
(17
)
 
(34
)
Net cash used in investing activities
 
(5,666
)
 
(732
)
Cash flows from financing activities:
 
 
 
 
Payments of deferred offering costs
 

 
(81
)
Repayments on capital leases
 
(185
)
 
(153
)
Proceeds from issuance of ordinary shares, net of issuance costs
 

 
16,102

Proceeds from stock option exercises
 
176

 
436

Proceeds from warrant exercises
 
58

 

Tax payments related to shares withheld upon vesting of restricted stock
 
(91
)
 

Net cash provided by (used in) financing activities
 
(42
)
 
16,304

Effect of exchange rate changes on cash
 

 
116

Net (decrease)/increase in cash
 
(20,769
)
 
778

Cash at beginning of period
 
52,639

 
10,864

Cash at end of period
 
$
31,870

 
$
11,642

 
 
 
 
 
Supplemental disclosures:
 
 
 
 
Cash paid for interest
 
$
2,724

 
$
2,630

Cash paid for income taxes
 
$
146

 
$
89

 
 
 
 
 
Supplemental disclosures of non-cash investing and financing activities:
 
 
 
 
Unpaid balance for property and equipment
 
$
622

 
$
898

Assets acquired under capital leases
 
$
69

 
$
50

Unpaid deferred offering costs
 
$

 
$
719

Equity consideration in an asset acquisition
 
$
337

 
$

Inventory acquired in an asset acquisition
 
$
1,257

 
$

Consideration payable related to asset acquisition
 
$
1,277

 
$


The accompanying notes are an integral part of these condensed consolidated financial statements.

7

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)


1.    Formation and Business of the Company
Formation and Business of the Company
Establishment Labs Holdings Inc. and its wholly owned subsidiaries (collectively “the Company”, “we”, “us”, or “our”) is a global company that manufactures and markets innovative medical devices for aesthetic and reconstructive plastic surgery. The Company was established in the British Virgin Islands on October 9, 2013, at which time Establishment Labs, S.A., the Costa Rican manufacturing company, was reincorporated as a wholly-owned subsidiary. As of June 30, 2019, the Company also has wholly-owned subsidiaries in the United States (JAMM Technologies, Inc. and Motiva USA LLC), Belgium (European Distribution Center Motiva BVBA), Brazil (Establishment Labs Produtos para Saude Ltda), France (Motiva Implants France SAS), Sweden (Motiva Nordica AB), Switzerland (JEN-Vault AG), the United Kingdom (Motiva Implants UK Limited), Italy (Motiva Italy S.R.L), Spain (Motiva Implants Spain, S.L.) and Austria (Motiva Austria GmbH). Substantially all of the Company’s revenues are derived from the sale of silicone breast implants under the brand of Motiva Implants.
The main manufacturing activities are conducted at two manufacturing facilities in Costa Rica. In 2010, the Company began operating under the Costa Rica free zone regime (Régimen de Zona Franca), which provides for reduced income tax and other tax obligations pursuant to an agreement with the Costa Rican authorities.
The Company’s products are approved for sale in Europe, the Middle East, Latin America, and Asia. The Company sells its products internationally through a combination of distributors and direct sales to customers.
The Company is pursuing regulatory approval to commercialize its products in the United States. The Company received approval of an investigational device exemption, or IDE, from the FDA in March 2018 to initiate a clinical trial in the United States for its Motiva Implants, and the first patient in the study was enrolled in April 2018.
The Company has been expanding its global operations through a series of acquisitions and establishing wholly-owned subsidiaries. In November 2015, the Company purchased certain assets from Magna Equities I, LLC and established its wholly-owned subsidiary, JAMM Technologies, Inc., in the United States. In January 2016, the Company purchased a distribution company in Brazil to support the application to sell its products in Brazil. In March 2016, the Company purchased a storage and distribution company in Belgium to support its continued growth in Europe. In September 2016, the Company purchased a distribution company in France, and it also established a wholly-owned subsidiary in Switzerland. In November 2017, the Company acquired certain assets from Femiline AB and established its wholly-owned subsidiary in Sweden, Motiva Nordica AB. During 2018, the Company established wholly-owned subsidiaries in the United Kingdom and Italy and purchased certain assets from Menke Med GmbH, Motiva Matrix Spain SL and Belle Health Ltd. In January 2019, the Company purchased certain assets from AFS Medical GMBH and established wholly-owned subsidiaries in Austria and Spain.
Initial Public Offering
On July 23, 2018, the Company completed its initial public offering, or IPO, whereby it sold a total of 4,272,568 shares of common stock at $18.00 per share including 557,291 shares sold to underwriters for the exercise of their option to purchase additional shares. The Company received net proceeds from the IPO of approximately $70.1 million, after deducting underwriting discounts and commissions of $5.4 million and deferred offering costs of $1.5 million.
Concurrent with the closing of the IPO, the following transactions were completed in accordance with the related agreements:
the Company amended and restated its Memorandum of Association and Articles of Association, or the Articles, to automatically convert all outstanding classes of the Company’s stock into common shares of a single class of no par value. An unlimited number of common shares was authorized.
The Board of Directors determined no further awards would be issued from the 2015 Equity Plan and approved the 2018 Equity Incentive Plan, or the 2018 Plan, with an initial reserve of 1,500,000 of the Company’s common shares for issuance.
The Board of Directors adopted the 2018 Employee Share Purchase Plan, or the ESPP, with an initial reserve of 100,000 of the Company’s common shares for issuance.

8

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

2.    Summary of Significant Accounting Policies
There have been no material changes to the Company’s significant accounting policies during the six months ended June 30, 2019 as compared to the significant accounting policies described in Note 2 of the “Notes to Consolidated Financial Statements” in the Company’s audited consolidated financial statements as of December 31, 2018 and 2017 and for the years then ended. Below are those policies with current period updates.
Basis of Presentation and Consolidation
The accompanying condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America, or GAAP, and the applicable rules and regulations of the Securities and Exchange Commission, or SEC, for interim financial information. Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements.
The accompanying condensed consolidated financial statements and related financial information should be read in conjunction with the audited consolidated financial statements and the related notes thereto for the years ended December 31, 2018 and 2017 presented in the Company’s Form 10-K filed on March 20, 2019, with the U.S. Securities and Exchange Commission.
The condensed consolidated financial statements include the Company’s accounts and those of its wholly owned subsidiaries as of June 30, 2019 as follows:
 
 
Subsidiary
Incorporation/Acquisition Date
Establishment Labs, S.A. (Costa Rica)
January 18, 2004
Motiva USA, LLC (USA)
February 20, 2014
JAMM Technologies, Inc. (USA)
October 27, 2015
Establishment Labs Produtos par Saude Ltda (Brazil)
January 4, 2016
European Distribution Center Motiva BVBA (Belgium)
March 4, 2016
Motiva Implants France SAS (France)
September 12, 2016
JEN-Vault AG (Switzerland)
November 22, 2016
Motiva Nordica AB (Sweden)
November 2, 2017
Motiva Implants UK Limited (the United Kingdom)
July 31, 2018
Motiva Italy S.R.L (Italy)
July 31, 2018
Motiva Implants Spain, S.L. (Spain)
January 3, 2019
Motiva Austria GmbH (Austria)
January 14, 2019
 
 
All intercompany accounts and transactions have been eliminated in consolidation.
Unaudited Interim Condensed Consolidated Financial Information
The accompanying interim condensed consolidated financial statements as of June 30, 2019 and for the three and six months ended June 30, 2019 and 2018, and the related interim information contained within the notes to the condensed consolidated financial statements, are unaudited. The unaudited interim condensed consolidated financial statements have been prepared in accordance with GAAP and on the same basis as the audited consolidated financial statements. In the opinion of management, the accompanying unaudited interim condensed consolidated financial statements contain all adjustments which are necessary to state fairly the Company’s financial position as of June 30, 2019, and the results of its operations and cash flows for the six months ended June 30, 2019 and 2018. Such adjustments are of a normal and recurring nature. The results for the six months ended June 30, 2019 are not necessarily indicative of the results to be expected for the full fiscal year 2019, or for any future period.

9

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Segments
The chief operating decision maker for the Company is the Chief Executive Officer. The Chief Executive Officer reviews financial information presented on a consolidated basis, accompanied by information about revenue by geographic region, for purposes of allocating resources and evaluating financial performance. The Company has one business activity and there are no segment managers who are held accountable for operations, operating results or plans for levels or components below the consolidated unit level. Accordingly, the Company has determined that it has a single reportable and operating segment structure. The Company and its Chief Executive Officer evaluate performance based primarily on revenue in the geographic regions in which the Company operates.
Geographic Concentrations
The Company derives all of its revenues from sales to customers in Europe, the Middle East, Latin America, and Asia, and has not yet received approval to sell its products in the United States.
For the six months ended June 30, 2019, Brazil accounted for 16.1% of consolidated revenue and no other individual country exceeded 10% of consolidated revenue, on a ship-to destination basis. For the six months ended June 30, 2018, Brazil accounted for 14.6% of consolidated revenue, on a ship-to destination basis.
The Company’s long-lived assets located in Costa Rica represented the majority of the total long-lived assets as of June 30, 2019 and December 31, 2018.
Use of Estimates
The preparation of financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the amounts reported in the condensed consolidated financial statements and accompanying notes. Significant accounting estimates and management judgments reflected in the condensed consolidated financial statements include items such as accounts receivable valuation and allowances, inventory valuation and allowances, valuation of acquired intangible assets, valuation of derivatives, estimation of assets’ useful lives and valuation of deferred income tax assets, including tax valuation allowances. Estimates are based on historical experience, where applicable, and other assumptions believed to be reasonable by management. Actual results may differ from those estimates under different assumptions or conditions.
Concentration of Credit Risk and Other Risks and Uncertainties
Financial instruments that potentially subject the Company to a concentration of credit risk consist principally of cash and accounts receivable. The majority of the Company’s cash is held at one financial institution in the United States. The Company has not experienced any losses to its deposits of cash.
All of the Company’s revenue has been derived from sales of its products in international markets, principally Europe, the Middle East, Latin America, and Asia. In the international markets in which the Company participates, the Company uses a combination of distributors and makes direct sales to customers. The Company performs ongoing credit evaluations of its distributors and customers, does not require collateral, and maintains allowances for potential credit losses on customer accounts when deemed necessary.
During the six months ended June 30, 2019 and 2018, no customers accounted for more than 10% of the Company’s revenue. Substantially all of the Company’s revenues are derived from the sale of Motiva Implants. One customer accounted for 10.6% of the Company’s accounts receivable balance as of June 30, 2019. No customers accounted for more than 10% of the Company’s accounts receivable balance as of December 31, 2018.
The Company relies on NuSil Technology, LLC, or NuSil, as the sole supplier of medical-grade silicone used in Motiva Implants. During the six months ended June 30, 2019 and 2018, the Company had purchases of $8.1 million, or 62.1% of total purchases, and $5.8 million, or 62.1% of total purchases, respectively, from Nusil. As of June 30, 2019 and December 31, 2018, we had an outstanding balance owed to this vendor of $1.5 million and $0.8 million, respectively.
The Company’s future results of operations involve a number of risks and uncertainties. Factors that could affect the Company’s future operating results and cause actual results to vary materially from expectations include, but

10

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

are not limited to, uncertainty of regulatory approval of the Company’s current and potential future products, uncertainty of market acceptance of the Company’s products, competition from substitute products and larger companies, securing and protecting proprietary technology, strategic relationships and dependence on key individuals and sole source suppliers.
Products developed by the Company require clearances from the FDA or other international regulatory agencies prior to commercial sales. There can be no assurance that the products will receive the necessary clearances. If the Company was denied clearance, clearance was delayed, or the Company was unable to maintain its existing clearances, these developments could have a material adverse impact on the Company.
Cash
The Company’s cash consists of cash maintained in checking and interest-bearing accounts. The Company accounts for financial instruments with original maturities of three months or less at the date of purchase as cash equivalents. The Company held no cash equivalents as of June 30, 2019 and December 31, 2018.
Accounts Receivable and Allowance for Doubtful Accounts
Accounts receivable is stated at invoice value less estimated allowances for returns and doubtful accounts. The Company continually monitors customer payments and maintains an allowance for estimated losses resulting from customers’ inability to make required payments. In evaluating the Company’s ability to collect outstanding receivable balances, the Company considers various factors including the age of the balance, the creditworthiness of the customer, which is assessed based on ongoing credit evaluations and payment history, and the customer’s current financial condition. In cases where there are circumstances that may impair a specific customer’s ability to meet its financial obligations, an allowance is recorded against amounts due, which reduces the net recognized receivable to the amount reasonably believed to be collectible.
Inventory and Cost of Revenue
Inventory is stated at the lower of cost to purchase or manufacture the inventory or the net realizable value of such inventory. Cost is determined using the standard cost method which approximates actual costs using the first-in, first-out basis. The Company regularly reviews inventory quantities considering actual losses, projected future demand, and remaining shelf life to record a provision for excess and slow-moving inventory. An inventory allowance of $0.4 million and $0.2 million has been recorded as of June 30, 2019 and December 31, 2018, respectively.
The Company recognizes the cost of inventory transferred to the customer in cost of revenue when revenue is recognized.
Shipping and Handling Costs
Shipping and handling costs are expensed as incurred and are included in selling, general and administrative, or SG&A, expenses. For the three months ended June 30, 2019 and 2018, shipping and handling costs were $0.7 million and $0.5 million, respectively. For the six months ended June 30, 2019 and 2018, shipping and handling costs were $1.4 million and $0.8 million, respectively.
Revenue Recognition
The Company recognizes revenue related to sales of products to distributors or directly to customers in markets where it has regulatory approval, net of discounts and allowances. The Company recognizes revenue in accordance with Accounting Standards Codification, or ASC, 606, Revenue from Contracts with Customers. ASC 606 requires the Company to recognize revenue to depict the transfer of goods or services to a customer at an amount that reflects the consideration it expects to receive in exchange for those goods or services. The Company adopted ASC 606 on January 1, 2019, using the modified retrospective approach and applied ASC 606 only to contracts not completed as of January 1, 2019. The impact of adopting ASC 606 was not material to the condensed consolidated financial statements.
The Company recognizes revenue related to the sales of products to distributors at the time of shipment of the product, which represents the point in time when the distributor has taken ownership and assumed the risk of loss and the required revenue recognition criteria are satisfied. The Company’s distributors are obligated to pay within specified terms regardless of when, or if, they sell the products. The Company’s contracts with distributors

11

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

typically do not contain right of return or price protection and have no post-delivery obligations.
Appropriate reserves are established for anticipated sales returns based on historical experience, recent gross sales and any notification of pending returns. The Company recognizes revenue when title to the product and risk of loss transfer to customers, provided there are no remaining performance obligations required of the Company or any written matters requiring customer acceptance. The Company allows for the return of product from direct customers in certain regions within fifteen days after the original sale and records estimated sales returns as a reduction of sales in the same period revenue is recognized. Sales return provisions are calculated based upon historical experience with actual returns. Actual sales returns in any future period are inherently uncertain and thus may differ from the estimates. If actual sales returns differ significantly from the estimates, an adjustment to revenue in the current or subsequent period is recorded. As of June 30, 2019 and December 31, 2018, an allowance of $59,000 and $52,000 was recorded for product returns.
A portion of the Company’s revenue is generated from the sale of consigned inventory maintained at physician, hospital, and clinic locations. For these products, revenue is recognized at the time the Company is notified by the consignee that the product has been implanted, not when the consigned products are delivered to the consignee’s warehouse.
For three and six months ended June 30, 2019, revenue was generated in these primary geographic markets:
 
 
 
 
 
 
 
Three months ended
 
Six months ended
 
 
June 30, 2019
 
 
(in thousands)
Europe
 
$
9,280

 
$
18,687

Latin America
 
6,017

 
12,184

Asia-Pacific/Middle East
 
6,276

 
11,222

Other
 
111

 
369

 
 
$
21,684

 
$
42,462

 
 
 
 
 
The Company believes this level of disaggregation sufficiently depicts how the nature, amount, timing and uncertainty of our revenue and cash flows are affected by economic factors.
The Company has a limited warranty for the shelf life of the product, which is five years from the time of manufacture. Estimated warranty obligations are recorded at the time of sale. The Company also offers a warranty to patients in the event of rupture and a replacement program for capsular contracture events, provided certain registration requirements are met. Revenue for extended warranties are recognized ratably over the term of the agreement. To date, these warranty and program costs have been de minimis. The Company will continue to evaluate the warranty reserve policies for adequacy considering claims history.
Deferred revenue primarily consists of payments received in advance of meeting revenue recognition criteria. The Company has received payments from distributors to provide distribution exclusivity within a geographic area and recognizes deferred revenue on a ratable basis over the term of such contractual distribution relationship. Additionally, the Company has received payments from customers in direct markets prior to surgical implantation, and recognizes deferred revenue at the time the Company is notified by the customer that the product has been implanted. For all arrangements, any revenue that has been deferred and is expected to be recognized beyond one year is classified as long-term deferred revenue and included in “Other liabilities, long term” on the condensed consolidated balance sheets (see Note 3).

12

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Research and Development
Costs related to research and development, or R&D, activities are expensed as incurred. R&D costs primarily include personnel costs, materials, clinical expenses, regulatory expenses, product development, consulting services, and outside research activities, all of which are directly related to research and development activities.
The Company estimates FDA clinical trial expenses based on the services performed, pursuant to contracts with research institutions and clinical research organizations that conduct and manage clinical trials on its behalf. In accruing service fees, the Company estimates the time period over which services will be performed and the level of patient enrollment and activity expended in each period. If the actual timing of the performance of services or the level of effort varies from the estimate, the Company will adjust the accrual accordingly.
Selling, General and Administrative Expenses
SG&A expenses include sales and marketing costs, payroll and related benefit costs, insurance expenses, shipping and handling costs, legal and professional fees and administrative overhead.
Property and Equipment
Property and equipment are stated at cost less accumulated depreciation and amortization.
Following the exercise of its option to purchase its manufacturing facility in June 2019, the Company depreciates the owned building on a straight-line basis over 50 years of useful life. Depreciation of property and equipment is computed using the straight-line method over the assets’ estimated useful lives of five to ten years. Leasehold improvements are amortized on a straight-line basis over the shorter of the estimated useful life of the asset or the remaining lease term after factoring expected renewal periods. Upon retirement or disposal of assets, the costs and related accumulated depreciation are eliminated from the accounts and any gain or loss is recognized in operations. Maintenance and repairs are expensed as incurred. Substantially all of the Company’s manufacturing operations and related property and equipment is located in Costa Rica.
Goodwill and Intangible Assets
The Company records the excess of the acquisition purchase price over the net fair value of the tangible and identifiable intangible assets acquired and liabilities assumed as goodwill. In accordance with ASC 350, Intangibles - Goodwill and Other, the Company tests goodwill for impairment annually during the fourth quarter of each year and whenever events or changes in circumstances indicate that the carrying value of the asset may not be recoverable. In connection with the annual impairment test for goodwill, the Company elected the option to perform a qualitative assessment to determine whether it is more likely than not that the fair value of the reporting unit is less than its carrying amount. If the Company determines that it was more likely than not that the fair value of the reporting unit is less than its carrying amount, then the impairment test is performed.
Consistent with the Company's assessment that it has only one reporting segment, the Company has determined that it has only one reporting unit and tests goodwill for impairment at the entity level using the two-step process required by ASC 350. In the first step, the Company compares the carrying amount of the reporting unit to the fair value of the enterprise. If the fair value of the enterprise exceeds the carrying value, goodwill is not considered impaired and no further testing is required. If the carrying value of the enterprise exceeds the fair value, goodwill is potentially impaired, and the second step of the impairment test must be performed. In the second step, the Company compares the implied fair value of the goodwill, as defined by ASC 350, to its carrying amount to determine the impairment loss, if any.  
The Company capitalizes certain costs related to intangible assets, such as patents and trademarks and records purchased intangible assets at their respective estimated fair values at the date of acquisition. Purchased finite-lived intangible assets are being amortized using the straight-line method over their remaining estimated useful lives, which range from two to fifteen years. The Company evaluates the remaining useful lives of intangible assets on a periodic basis to determine whether events or circumstances warrant a revision to the remaining estimated amortization period. The Company tests indefinite-lived intangible assets for impairment on at least an annual basis and whenever circumstances suggest the assets may be impaired. If indicators of impairment are present, the Company evaluates the carrying value of the intangible assets in relation to estimates of future undiscounted cash flows. The Company also evaluates the remaining useful life of an indefinite-lived intangible asset to determine whether events and circumstances continue to support an indefinite useful life.

13

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

During the year ended December 31, 2018, there has been no impairment of goodwill or intangible assets based on the qualitative assessments performed by the Company. As of June 30, 2019, no triggering events have occurred which would indicate that the acquired intangible asset values may not be recoverable.
Long-Lived Assets
The Company reviews long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset might not be recoverable. When such an event occurs, management determines whether there has been impairment by comparing the anticipated undiscounted future net cash flows to the related asset group’s carrying value. If an asset is considered impaired, the asset is written down to fair value, which is determined based either on discounted cash flows or appraised value, depending on the nature of the asset. There were no impairment charges, or changes in estimated useful lives recorded during the year ended December 31, 2018. As of June 30, 2019, no triggering events have occurred which would indicate that the acquired intangible asset values may not be recoverable.
Debt and Embedded Derivatives
The Company applies the accounting standards for derivatives and hedging and for distinguishing liabilities from equity when accounting for hybrid contracts. The Company accounts for convertible debt instruments when the Company has determined that the embedded conversion options should not be bifurcated from their host instruments in accordance with ASC 470-20 Debt with Conversion and Other Options (see Note 6).
The Company uses option pricing valuation models to determine the fair value of embedded derivatives and records any change in fair value as a component of other income or expense in the condensed consolidated statements of operations (see Note 5).
Debt Issuance Costs and Debt Discounts
Costs incurred in connection with the issuance of new debt are capitalized. Capitalizable debt issuance costs paid to third parties and debt discounts, net of amortization, are recorded as a reduction to the long-term debt balance on the condensed consolidated balance sheets. Amortization expense on capitalized debt issuance costs and debt discounts related to loans are calculated using the effective interest method over the term of the loan commitment and is recorded as interest expense in the condensed consolidated statements of operations.
Income Taxes
The Company records income taxes using the asset and liability method, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been recognized in the Company’s consolidated financial statements or income tax returns. In estimating future tax consequences, expected future events, enactments or changes in the tax law or rates are considered. Valuation allowances are provided when necessary to reduce deferred tax assets to the amount expected to be realized.
The Company operates in various tax jurisdictions and is subject to audit by various tax authorities.
The Company records uncertain tax positions based on a two-step process whereby (1) a determination is made as to whether it is more likely than not that the tax positions will be sustained based on the technical merits of the position and (2) for those tax positions that meet the more-likely-than-not recognition threshold the Company recognizes the largest amount of tax benefit that is greater than 50% likely to be realized upon ultimate settlement with the related tax authority. The Company’s policy is to recognize interest and penalties accrued on any unrecognized tax benefits as a component of income tax expense. Significant judgment is required in the identification of uncertain tax positions and in the estimation of penalties and interest on uncertain tax positions.
There were no material uncertain tax positions in fiscal 2018 and for the six months ended June 30, 2019.
Foreign Currency
The financial statements of the Company’s foreign subsidiaries whose functional currencies are the local currencies are translated into U.S. dollars for consolidation as follows: assets and liabilities at the exchange rate as of the balance sheet date, stockholders’ equity at the historical rates of exchange, and income and expense amounts at the average exchange rate for the period. Translation adjustments resulting from the translation of the subsidiaries’ accounts are included in “Accumulated other comprehensive income (loss)” as equity in the

14

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

condensed consolidated balance sheet. Transactions denominated in currencies other than the applicable functional currency are converted to the functional currency at the exchange rate on the transaction date. At period end, monetary assets and liabilities are remeasured to the functional currency using exchange rates in effect at the balance sheet date. Non-monetary assets and liabilities are remeasured at historical exchange rates. Gains and losses resulting from foreign currency transactions are included within “Other income (expense), net” in the condensed consolidated statement of operations. For the six months ended June 30, 2019, foreign currency transaction loss amounted to $0.3 million as compared to a foreign currency transaction loss of $1.9 million for the six months ended June 30, 2018.
Comprehensive Income (Loss)
The Company’s comprehensive loss consists of net loss and foreign currency translation adjustments arising from the consolidation of the Company’s foreign subsidiaries.
Share-Based Compensation
The Company measures and recognizes compensation expense for all stock-based awards in accordance with the provisions of ASC 718, Stock Compensation. Stock-based awards granted include stock options, restricted stock units, or RSUs, and restricted stock awards, or RSAs. Share-based compensation expense for stock options and RSAs granted to employees is measured at the grant date based on the fair value of the awards and is recognized as an expense ratably on a straight-line basis over the requisite service period. The fair value of options to purchase shares granted to employees is estimated on the grant date using the Black-Scholes option valuation model.
Prior to the adoption of ASU 2018-07, Compensation – Stock Compensation (Topic 718), Improvements to Nonemployee Share-Based Payment Accounting, on January 1, 2019, the Company accounted for stock options and RSAs issued to non-employees under ASC 505-50 Equity: Equity-Based Payments to Non-Employees, which required the fair value of such non-employee awards to be remeasured at each quarter-end over the vesting period. After the adoption of ASU 2018-07, the accounting guidance is consistent with accounting for employee share-based compensation.
The calculation of share-based compensation expense requires that the Company make assumptions and judgments about the variables used in the Black-Scholes model, including the expected term, expected volatility of the underlying common shares, risk-free interest rate and dividends.
The Company adopted ASU 2016-09, Improvements to Employee Share-Based Payment Accounting, under which it recognizes forfeitures as they occur rather than applying a prospective forfeiture rate in advance (see Note 10).
Net Income (Loss) Per Share
Basic net income (loss) per share is calculated by dividing the net income (loss) attributable to shareholders by the weighted-average number of shares outstanding during the period, without consideration for potentially dilutive securities. Diluted net income (loss) per share is computed by dividing the net income (loss) by the weighted-average number of shares and potentially dilutive securities outstanding for the period. For purposes of the diluted net loss per share calculation, any shares issuable upon exercise of share warrants, share options and non-vested restricted stock outstanding under the Company’s equity plan are potentially dilutive securities. Diluted net loss per share is the same as basic net loss per share for periods where the Company reported a net loss because including the dilutive securities would be anti-dilutive.
Recent Accounting Standards
Periodically, new accounting pronouncements are issued by the Financial Accounting Standards Board, or FASB, or other standard setting bodies and adopted by the Company as of the specified effective date. Unless otherwise discussed, the impact of recently issued standards that are not yet effective will not have a material impact on the Company’s consolidated financial statements upon adoption. Under the Jumpstart Our Business Startups Act of 2012, or JOBS Act, the Company meets the definition of an emerging growth company, and has elected the extended transition period for complying with new or revised accounting standards pursuant to Section 107(b) of the JOBS Act. The Company will remain an emerging growth company until the earliest of (1) the last day of its

15

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

first fiscal year (a) following the fifth anniversary of the completion of our initial public offering, (b) in which we have total annual gross revenue of at least $1.07 billion, or (c) in which we are deemed to be a large accelerated filer, which means the market value of our common stock that is held by non-affiliates exceeds $700.0 million of the prior June 30th and (2) the date on which we have issued more than $1.0 billion in non-convertible debt securities during the prior three-year period.
The following recent accounting pronouncements issued by the FASB, could have a material effect on our financial statements:
Recently Adopted Accounting Standards
On January 1, 2019, the Company adopted ASC 606, Revenue from Contracts with Customers, and all the related amendments and applied it to all contracts that were not completed as of January 1, 2019 using the modified retrospective method. The impact of adoption on the Company’s consolidated balance sheet as of December 31, 2018 and consolidated statement of operations for the year ended December 31, 2018 was not material.
In June 2018, the FASB issued ASU 2018-07, Compensation – Stock Compensation (Topic 718), Improvements to Nonemployee Share-Based Payment Accounting. This ASU is intended to simplify aspects of share-based compensation issued to non-employees by making the guidance consistent with accounting for employee share-based compensation. This guidance is effective for non-public entities for fiscal years beginning after December 15, 2019, including interim periods within that fiscal year. Early adoption is permitted. The Company adopted this ASU on January 1, 2019. The adoption of this ASU did not have a material impact on the financial statements.
Recently Issued Accounting Standards
In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement: Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement. This ASU modifies the disclosure requirements for fair value measurements. The modifications removed the following disclosure requirements: (i) the amount of, and reasons for, transfers between Level 1 and Level 2 of the fair value hierarchy; (ii) the policy for timing of transfers between levels; and (iii) the valuation processes for Level 3 fair value measurements. This ASU added the following disclosure requirements: (i) the changes in unrealized gains and losses for the period included in other comprehensive income ("OCI") for recurring Level 3 fair value measurements held at the end of the reporting period; and (ii) the range and weighted average of significant observable inputs used to develop Level 3 fair value measurements. This update is effective for non-public entities for annual and interim periods beginning after December 15, 2020, with early adoption permitted. As the requirements of this literature are disclosure only, ASU 2018-13 will not impact our financial condition or results of operations.
In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842), which sets out the principles for the recognition, measurement, presentation and disclosure of leases for both parties to a contract (i.e. lessees and lessors). The new standard requires lessees to apply a dual approach, classifying leases as either finance or operating leases based on the principle of whether the lease is effectively a financed purchase by the lessee. This classification will determine whether lease expense is recognized based on an effective interest method or on a straight-line basis over the term of the lease, respectively. A lessee is also required to record a right-of-use asset and a lease liability for all leases with a term of greater than twelve months regardless of their classification. Leases with a term of twelve months or less will be accounted for similar to existing guidance for operating leases today. ASC 842 supersedes the previous leases standard, ASC 840 Leases. The standard is effective for non-public business entities and emerging growth companies for fiscal years beginning after December 15, 2019 and interim periods within fiscal years beginning after December 15, 2020. Early adoption is permitted. The Company is currently evaluating the effects, if any, that the adoption of this guidance will have on its consolidated financial statements.

16

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

3.     Balance Sheet Accounts
Inventory
 
 
 
 
 
 
 
June 30,
2019
 
December 31,
2018
 
 
 
 
 
 
 
(in thousands)
Raw materials
 
$
3,189

 
$
3,349

Work in process
 
1,215

 
1,244

Finished goods
 
22,136

 
20,252

 
 
$
26,540

 
$
24,845

 
 
 
 
 
Property and Equipment, Net
 
 
 
 
 
 
 
June 30,
2019
 
December 31,
2018
 
 
 
 
 
 
 
(in thousands)
Machinery and equipment
 
$
8,205

 
$
7,145

Building improvements
 
6,177

 

Furniture and fixtures
 
2,854

 
2,536

Building
 
2,472

 

Leasehold improvements
 
2,016

 
8,062

Land
 
802

 

Vehicles
 
419

 
400

Total
 
22,945

 
18,143

Less: Accumulated depreciation and amortization
 
(6,237
)
 
(5,230
)
 
 
$
16,708

 
$
12,913

 
 
 
 
 
For the three months ended June 30, 2019 and 2018, depreciation and amortization expense related to property and equipment was $0.7 million and $0.6 million, respectively. For the six months ended June 30, 2019 and 2018, depreciation and amortization expense related to property and equipment was $1.3 million and $1.1 million, respectively.
The Company entered into capital leases relating to equipment and vehicles and recorded the fair value of the lease payments on the initial contract date and is amortizing the assets over the term of the leases. As of June 30, 2019 and December 31, 2018, the gross asset value for capital lease assets was $1.5 million and $1.4 million, respectively. Depreciation expense for assets under capital leases was $21,000 and $24,000 for the three months ended June 30, 2019 and 2018, respectively. Depreciation expense for assets under capital leases was $42,000 and $48,000 for the six months ended June 30, 2019 and 2018, respectively.
In August 2015, the Company entered into a contract with the Zona Franca Coyol, S.A. to have them build a new manufacturing facility in Costa Rica. The construction of the new 27,900 square foot facility began in November 2015 and was finished during the first quarter of fiscal 2017. The construction costs were paid for by the Company. The Company purchased the title to the building and land for approximately $3.2 million on June 26, 2019. Prior to the purchase, the Company leased the building from Zona Franca Coyol, S.A. for approximately $34,000 per month.

17

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Accrued Liabilities
Accrued liabilities consisted of the following:
 
 
 
 
 
 
 
June 30,
2019
 
December 31,
2018
 
 
 
 
 
 
 
(in thousands)
Performance bonus
 
$
1,036

 
$
1,295

Payroll and related expenses
 
2,119

 
1,300

Bonus feature of stock option grants
 
2,989

 
1,763

Taxes
 

 
479

Commissions
 
553

 
487

Professional and legal services
 
453

 
122

Short-term minimum lease payments under capital leases
 
357

 
336

Warranty reserve
 
236

 
148

Advisory board and board of director related expenses
 
119

 
165

Other
 
856

 
30

 
 
$
8,718

 
$
6,125

 
 
 
 
 
Other Liabilities, Short Term
Other liabilities, short-term consisted of the following:
 
 
 
 
 
 
 
June 30,
2019
 
December 31,
2018
 
 
 
 
 
 
 
(in thousands)
Repurchase of warrants
 
$
2,261

 
$
2,261

Contingent equity consideration (see Note 11)
 
733

 
914

Deferred revenue
 
751

 
908

Cash payable for asset acquisitions (see Note 11)
 
392

 

 
 
$
4,137

 
$
4,083

 
 
 
 
 
In August 2017, the Company repurchased warrants for $4.7 million of which $2.3 million was still outstanding as of June 30, 2019 and December 31, 2018. The outstanding amount was paid on July 25, 2019.

18

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Other Liabilities, Long Term
Other liabilities, long-term consisted of the following:
 
 
 
 
 
 
 
June 30,
2019
 
December 31,
2018
 
 
 
 
 
 
 
(in thousands)
Contingent equity consideration (see Note 11)
 
$
733

 
$
914

Deferred revenue
 
1,341

 
1,186

Cash payable for asset acquisitions (see Note 11)
 
882

 
883

Other
 
459

 
568

 
 
$
3,415

 
$
3,551

 
 
 
 
 
4.     Goodwill and Other Intangible Assets
Goodwill represents the excess of the purchase price over the fair value of the net tangible and identifiable intangible assets acquired in a business combination. Intangible assets resulting from the acquisitions of entities accounted for using the acquisition method of accounting are recorded at the estimated fair value of the assets acquired. Purchased intangibles include certain patents and license rights, 510(k) authorization by the FDA to sell a medical device and other intangible assets.
The Company’s goodwill and most intangibles at June 30, 2019 are the result of acquisitions of certain assets formerly owned by VeriTeQ Corporation in November 2015 and Femiline AB in November 2017, and business acquisitions of Establishment Labs Brasil Productos para Saude Ltda. in January 2016, European Distribution Center Motiva BVBA in March 2016 and Motiva Implants France in September 2016. Finite-lived intangibles are amortized over their estimated useful lives based on expected future benefit.
In addition to the intangibles acquired, the Company capitalized certain patent and license rights as identified intangibles based on patent and license rights agreements entered into over the past several years. Additionally, the Company capitalized certain software development costs associated with its development of a manufacturing software module, which the Company began amortizing in fiscal 2017 upon implementation of the software.
There were no changes in the carrying amount of goodwill during the six months ended June 30, 2019:
 
 
 
 
 
 
 
 
 
Balance as of January 1, 2019
 
Additions
 
Accumulated Impairment Losses
 
Balance as of June 30, 2019
 
 
 
 
 
 
 
 
 
(in thousands)
Goodwill
$
465

 
$

 
$

 
$
465

 
 
 
 
 
 
 
 


19

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

The carrying amounts of these intangible assets as of June 30, 2019 were as follows:
 
 
 
 
 
 
 
 
 
Gross Carrying Amount
 
Accumulated Amortization
 
Net Carrying Amount
 
Estimated Useful Lives
 
 
 
 
 
 
 
 
 
(in thousands)
 
(in years)
Patents and license rights
$
1,686

 
$
(682
)
 
$
1,004

 
7-12
Customer relationships
1,896

 
(616
)
 
1,280

 
4-10
510(k) authorization
567

 
(137
)
 
430

 
15
Developed technology
62

 
(37
)
 
25

 
10
Capitalized software development costs
98

 
(98
)
 

 
2
Other
75

 
(24
)
 
51

 
2-5
Capitalized patents and license rights not yet amortized
291

 

 
291

 
 
 
$
4,675

 
$
(1,594
)
 
$
3,081

 
 
 
 
 
 
 
 
 
 

The carrying amounts of intangible assets as of December 31, 2018 were as follows:
 
 
 
 
 
 
 
 
 
Gross Carrying Amount
 
Accumulated Amortization
 
Net Carrying Amount
 
Estimated Useful Lives
 
 
 
 
 
 
 
 
 
(in thousands)
 
(in years)
Patents and license rights
$
1,669

 
$
(564
)
 
$
1,105

 
7-12
Customer relationships
1,896

 
(381
)
 
1,515

 
4-10
510(k) authorization
567

 
(118
)
 
449

 
15
Developed technology
62

 
(34
)
 
28

 
10
Capitalized software development costs
98

 
(98
)
 

 
2
Other
75

 
(18
)
 
57

 
2-5
Capitalized patents and license rights not yet amortized
291

 

 
291

 
 
 
$
4,658

 
$
(1,213
)
 
$
3,445

 
 
 
 
 
 
 
 
 
 

For the three months ended June 30, 2019 and 2018, amortization expense related to intangible assets was $0.2 million and $0.1 million, respectively. For the six months ended June 30, 2019 and 2018, amortization expense related to intangible assets was $0.4 million and $0.3 million, respectively. Non-product related amortization is recorded in SG&A while product related amortization is recorded in cost of revenue.

20

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

As of June 30, 2019, the amortization expense related to identifiable intangible assets, with definite useful lives, in future periods is expected to be as follows:
 
 
 
Year Ending December 31,
 
(in thousands)
2019 (remaining)
 
$
365

2020
 
714

2021
 
674

2022
 
345

2023
 
109

Thereafter
 
583

Total
 
$
2,790

 
 
 
The Company evaluates the recoverability of goodwill and indefinite-lived intangible assets annually and whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. As of June 30, 2019, no triggering events have occurred which would indicate that the acquired intangible asset values may not be recoverable.
5.    Fair Value Measurements
The carrying value of the Company’s cash, accounts receivable and accounts payable approximate fair value due to the short-term nature of these items. Contingent equity consideration, warrants and embedded derivatives that qualify for liability treatment are carried at fair value and re-measured at each reporting period.
Fair value is defined as the exchange price that would be received for an asset or an exit price paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value must maximize the use of observable inputs and minimize the use of unobservable inputs.
The fair value hierarchy defines a three-level valuation hierarchy for disclosure of fair value measurements as follows:
Level I    Unadjusted quoted prices in active markets for identical assets or liabilities;
Level II    Inputs other than quoted prices included within Level I that are observable, unadjusted quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the related assets or liabilities; and
Level III    Unobservable inputs that are supported by little or no market activity for the related assets or liabilities.
The categorization of a financial instrument within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement.

21

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

The following table sets forth the Company’s financial instruments that were measured at fair value on a recurring basis by level within the fair value hierarchy at period end:
 
 
 
 
 
 
 
 
 
Fair Value Measurements at June 30, 2019
 
Total
 
Level 1
 
Level 2
 
Level 3
 
 
 
 
 
 
 
 
 
(in thousands)
Liabilities
 
 
 
 
 
 
 
Madryn put option liability
$
2,160

 
$

 
$

 
$
2,160

Acquisition-related contingent consideration
1,466

 

 

 
1,466

 
$
3,626

 
$

 
$

 
$
3,626

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Fair Value Measurements at December 31, 2018
 
Total
 
Level 1
 
Level 2
 
Level 3
 
 
 
 
 
 
 
 
 
(in thousands)
Liabilities
 
 
 
 
 
 
 
Madryn put option liability
$
4,768

 
$

 
$

 
$
4,768

Acquisition-related contingent consideration
1,828

 

 

 
1,828

 
$
6,596

 
$

 
$

 
$
6,596

 
 
 
 
 
 
 
 
The fair value measurement of derivatives and contingent consideration related to the business acquisition completed in fiscal 2017 is based on significant inputs not observed in the market and thus represents a Level 3 measurement.
In August 2017 the Company entered into a credit agreement, or the Madryn Credit Agreement, with Madryn Health Partners, LP, or Madryn, as administrative agent, and a syndicate of lenders (see Note 6). The Company determined that the Madryn Credit Agreement contained put options related to early redemption mandatory prepayment terms in case of change in control or an event of default and a call option related to voluntary repayment option. The Company allocated a fair value of $15.1 million for these identified embedded derivatives as a debt discount on the original commitment date. An additional $5.0 million debt discount was recorded on respective borrowing dates when the Company met the required milestones and borrowed an additional $10.0 million in the fourth quarter of fiscal 2017. The Company revalued the options as of each reporting period and recorded the change in the fair value in the consolidated statement of operations as other income or expense. The Company entered into an amendment to the Madryn Credit Agreement on June 17, 2019 (see Note 6).
Valuation of the embedded derivatives is complex and requires interest rate simulation, estimating the resultant bond valuation and the resultant pay-off to the option holder. The Company estimated the fair value of the embedded redemption options using the probability-weighted Binomial Lattice Model which is based on generalized binomial option pricing formula. The Binomial Lattice Model allows for the possibility of exercise before the end of the option’s life and considers future interest rates, volatility and other data with regards to the Company’s credit rating and credit spread. The probability of a change in control occurring was determined to be 50% at June 30, 2019 and December 31, 2018.

22

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

The Company used the following assumptions to value Madryn derivatives:
Put Option Liability (Madryn)
 
 
 
 
 
June 30, 2019
 
December 31, 2018
Interest rate volatility
21.1%
 
17.4%
Market yield rate
10.7%
 
13.0%
Term (in years)
6.25
 
4.5
Dividend yield
—%
 
—%
 
 
 
 
On November 17, 2017, the Company and Femiline AB and Johan Anderson, or the Seller, entered into an agreement to purchase certain assets from the Seller. The assets purchased included all existing inventory previously sold by the Company to the Seller, all customer relationships and a covenant not to compete. The aggregate purchase price for the assets purchased was 100,000 Class A Ordinary shares of the Company, contingently issuable upon achievement of specific milestones. Based on the valuation of the Company’s shares performed by a valuation specialist, the contingently issuable shares had an aggregate value of $1.0 million calculated as a product of contingently issuable shares and estimated fair value per share (see Note 11) on the date of the agreement. As of June 30, 2019, the fair value of the contingently issuable shares was determined using the closing price of the Company’s publicly traded shares.
As of June 30, 2019 and December 31, 2018, the short term and long term portions of contingent consideration liability were included in “Other liabilities, short term” and “Other liabilities, long term”, respectively.
The estimates are based, in part, on subjective assumptions and could differ materially in the future.
During the periods presented, the Company has not changed the manner in which it values liabilities that are measured at fair value using Level 3 inputs. The Company recognizes transfers between levels of the fair value hierarchy as of the end of the reporting period. There were no transfers within the hierarchy during the six months ended June 30, 2019 or during the year ended December 31, 2018.
The fair value of the debt redemption feature liability includes the estimated volatility and risk-free rate.  The higher/lower the estimated volatility, the higher/lower the value of the debt redemption feature liability. The higher/lower the risk-free interest rate, the higher/lower the value of the debt conversion feature liability.

23

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

The following table sets forth a summary of the changes in the fair value of the Company’s Level 3 financial instruments as follows:
 
 
 
 
 
 
 
Acquisition-related Contingent Consideration
 
Put Option Liability (Madryn)
 
Call Option Liability (Madryn)
Balance at December 31, 2017
$
964

 
$
20,302

 
$
360

Change in fair value
752

 
(4,197
)
 
(328
)
Balance at June 30, 2018
$
1,716

 
$
16,105

 
$
32

 
 
 
 
 
 
Balance at December 31, 2018
$
1,828

 
$
4,768

 
$

Change in fair value
(362
)
 
(2,608
)
 

Balance at June 30, 2019
$
1,466

 
$
2,160

 
$

 
 
 
 
 
 
6.    Debt
Madryn Debt
On August 24, 2017 the Company entered into a credit agreement, or the Madryn Credit Agreement, with Madryn Health Partners, LP, or Madryn, as administrative agent, and a syndicate of lenders. On June 17, 2019, the Madryn Credit Agreement was amended to lower the interest rate on the outstanding debt facilities, provide for $25.0 million of new term loan commitments, decrease the amount of the prepayment penalties, remove all principal payments and extend the maturity date and repayment from September 30, 2023 to September 30, 2025. The Madryn Credit Agreement, as amended, provides for a term loan in a maximum principal amount of $65.0 million, $30.0 million (Term A) of which became available upon signing and was subsequently borrowed by the Company.
Prior to amending the Madryn Credit Agreement on June 17, 2019, the Company’s ability to borrow the remaining term loans under the Madryn Credit Agreement was subject to the Company achieving certain revenue milestones. The Company met milestones sufficient to borrow and borrowed an additional $5.0 million (Term B-1) on October 31, 2017 and $5.0 million (Term B-2) on December 15, 2017, bringing up the total outstanding principal balance to $40.0 million as of December 31, 2017.
Pursuant to the June 2019 amendment, the Company became eligible to borrow an additional $10.0 million (Term B-3) and $15.0 million (Term B-4) on or before September 30, 2019 and December 31, 2019, respectively. The Company borrowed the available funds under both tranches equal to $25.0 million on August 12, 2019.
In connection with the Madryn Credit Agreement, the Company and certain of its subsidiaries granted a security interest in substantially all of their respective assets, including, without limitation, intellectual property, and pledges of certain shares of the Company’s subsidiaries, subject to certain excluded collateral exceptions.
The Madryn Credit Agreement contains customary affirmative and negative covenants, including, but not limited to, restrictions on the ability of the Company and its subsidiaries to incur additional indebtedness, create liens, make certain investments, make restricted payments, enter into or undertake certain liquidations, mergers, consolidations or acquisitions and dispose of assets or subsidiaries. In addition, the Madryn Credit Agreement requires the Company to maintain minimum revenues and liquidity.
Prior to the effectiveness of the June 17, 2019 amendment, borrowings under the Madryn Credit Agreement bore interest at a rate equal to 3-month LIBOR plus 11.0% per annum. As of the amendment on June 17, 2019, borrowings under the Madryn Credit Agreement bear interest at a rate equal to 3-month LIBOR plus 8.0% per annum provided that no default has occurred. In an event of a default, the interest would increase by an additional 4.0% per annum. The effective interest rate under the amended Madryn Credit Agreement is 8.2%, and the weighted average interest rate was approximately 13.4% at June 30, 2019. The Company incurred $3.0 million

24

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

and $2.6 million in interest expense in connection with Madryn Credit Agreement during the six months ended June 30, 2019 and in 2018, respectively, including $0.3 million of direct costs to amend the Madryn Credit Agreement in June 2019, which were expensed as interest expense. No principal payments are due on the term loans until the final maturity date on September 30, 2025.
The Company also determined that the Madryn Credit Agreement contained put options which are mandatory repayment provisions related to liquidity events or an event of default and a call option related to voluntary repayment option. The Company allocated a fair value of $15.1 million for these embedded derivatives as a debt discount on the original commitment date in August 2017. An additional $5.0 million debt discount was recorded on respective borrowing dates when the Company met the required milestones and borrowed an additional $10.0 million in the fourth quarter of fiscal 2017. The Company revalues the embedded derivatives as of each reporting period and records the change in the fair value in the consolidated statement of operations as other income or expense (see Note 5). The Company also incurred legal expenses of $1.3 million in the third quarter of fiscal 2017, which were recorded as a debt discount and are being amortized over the term of the Madryn Credit Agreement.
The Company recorded Madryn debt on the balance sheet as follows:
 
 
 
 
 
June 30,
2019
 
December 31,
2018
 
 
 
 
 
(in thousands)
Principal
$
40,000

 
$
40,000

Net unamortized debt discount and issuance costs
(15,947
)
 
(17,678
)
Net carrying value of Madryn debt
$
24,053

 
$
22,322

 
 
 
 
As of June 30, 2019, the Company is in compliance with all financial debt covenants.
7.     Commitments and Contingencies
Operating Leases
We lease certain facilities under various operating leases. Most of the lease agreements provide us with the option of renewing our leases at the end of the initial lease term, at fair market rates. In most cases, we expect that in the normal course of business, facility leases will be renewed or replaced by other leases.
For the three months ended June 30, 2019 and 2018, rent expense was $0.4 million and $0.3 million, respectively. For the six months ended June 30, 2019 and 2018, rent expense was $0.7 million and $0.5 million, respectively.

25

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Future minimum lease payments under the operating leases as of June 30, 2019 were as follows:
 
 
 
Years Ending December 31,
 
Operating
Leases
 
 
(in thousands)
2019 (remaining)
 
$
308

2020
 
538

2021
 
400

2022
 
354

2023
 
361

Thereafter
 
1,645

 
 
$
3,606

 
 
 
Capital Leases
The Company entered into capital lease arrangements relating to software, equipment and vehicles. The lease periods are from one to seven years. The repayments are made monthly with an interest rates ranging from 4% to 7% per year.
Future minimum lease payments under these capital leases as of June 30, 2019 were as follows:
 
 
 
Years Ending December 31,
 
Capital
Leases
 
 
(in thousands)
2019 (remaining)
 
$
159

2020
 
258

2021
 
169

2022
 
36

 
 
622

Interest included in the above payments
 
(62
)
Amount payable without interest
 
560

Short-term minimum capital lease payments (included in accrued liabilities)
 
357

Long-term minimum capital lease payments
 
$
265

 
 
 
Contingencies
Periodically, the Company may have certain contingent liabilities that arise in the ordinary course of business activities. The Company accrues a liability for such matters when it is probable that future expenditures will be made and such expenditures can be reasonably estimated. There have been no contingent liabilities requiring accrual or disclosure at June 30, 2019 and December 31, 2018 except for contingent liabilities related to asset acquisitions (see Note 11).
Indemnification
The Company enters into standard indemnification arrangements in the ordinary course of business. Pursuant to these arrangements, the Company indemnifies, holds harmless, and agrees to reimburse the indemnified parties for losses suffered or incurred by the indemnified party, in connection with any trade secret, copyright, patent or other intellectual property infringement claim by any third-party with respect to the Company’s technology. The term of these indemnification agreements is generally perpetual. The maximum potential amount of future

26

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

payments the Company could be required to make under these agreements is not determinable because it involves claims that may be made against the Company in the future, but have not yet been made.
The Company has entered into indemnification agreements with its directors and officers that may require the Company to indemnify its directors and officers against liabilities that may arise by reason of their status or service as directors or officers, other than liabilities arising from willful misconduct of the individual.
The Company has not incurred costs to defend lawsuits or settle claims related to these indemnification agreements. No liability associated with such indemnifications has been recorded to date.
8.    Shareholders’ Equity
Under the Memorandum of Association and Articles of Association, or Articles, in effect as of June 30, 2019 and December 31, 2018, the Company had authorized an unlimited number of common shares with no par value.
As of June 30, 2019 and December 31, 2018, 20,882,419 and 20,672,025 shares, respectively, of common shares were issued and 20,474,349 and 20,263,955 shares, respectively, were outstanding.
During the six months ended June 30, 2019, the Company issued common shares in connection with an exercise of outstanding warrants (see Note 9) and as consideration for certain assets acquired (see Note 11). The Company also granted stock options to employees and contractors (see Note 10).
The Company had reserved common shares for future issuances as follows:
 
 
 
 
 
June 30,
2019
 
December 31,
2018
Warrants to purchase shares
5,500

 
104,826

Options to purchase shares
1,876,837

 
1,486,363

Remaining shares available under the 2018 Equity Incentive Plan
1,326,148

 
1,015,148

Shares issuable on vesting of restricted stock awards
228,114

 
314,123

Remaining shares available under the 2018 ESPP
287,000

 
100,000

Total
3,723,599

 
3,020,460

 
 
 
 
9.    Warrants
In March 2017, the Company issued warrants for the purchase of 145,000 Class B ordinary shares to parties related to Rockport Ventures, with a fixed exercise price of $3.80 per share.
During the six months ended June 30, 2019, warrants to purchase 92,231 shares were net exercised to obtain 87,321 shares. As of June 30, 2019 and December 31, 2018, 5,500 and 104,826 warrants to purchase the Company’s common shares, respectively, were outstanding and exercisable:
 
 
 
 
 
 
 
 
 
 
 
 
 
Warrant Holder
 
Issue Date
 
In Connection With
 
Warrant to
Purchase
 
Shares
 
Exercise
Price
 
Expiration Date
Rockport
 
3/3/2017
 
Loan agreement
 
Common
 
5,500

 
$
3.80

 
8/28/2022
 
 
 
 
 
 
 
 
 
 
 
 
 
10.     Share-Based Compensation
In December 2015, the Board of Directors approved and adopted the 2015 Equity Incentive Plan, or 2015 Plan.

27

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Under the 2015 Plan, the Company may grant share options, equity appreciation rights, and restricted shares and restricted share units. Pursuant to the 2015 Plan, the Company has granted RSAs and stock options to Board of Directors, employees and consultants.
The 2015 Plan, as amended, reserved 2,650,000 Class A shares for issuance. If an award granted under the 2015 Plan expires, terminates, is unexercised, or is forfeited, or if any shares are surrendered in connection with an incentive award, the shares subject to such award and the surrendered shares become available for further awards under the 2015 Plan.
Concurrent with the closing of the IPO, the Board of Directors terminated the 2015 Plan and approved the 2018 Equity Incentive Plan, or the 2018 Plan, with an initial reserve of 1,500,000 shares of the Company’s common shares for issuance under the 2018 Plan.
Pursuant to the “evergreen” provision contained in the 2018 Plan, the number of common shares reserved for issuance under the 2018 Plan automatically increases on first day of each fiscal year, commencing on January 1, 2019, in an amount equal to the least of (1) 750,000 shares, (2) 4% of the total number of the Company’s common shares outstanding on the last day of the preceding fiscal year, or (3) a number of common shares as may be determined by the Company’s Board of Directors prior to any such increase date. On January 1, 2019, the number of common shares authorized for issuance increased automatically by 750,000 shares in accordance with the evergreen provision of the 2018 Plan, increasing the number of common shares reserved under the 2018 Plan to 2,250,000.
During the periods presented, the Company recorded the following share-based compensation expense for stock options and restricted stock awards:
 
 
 
 
 
 
 
 
 
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
 
2019
 
2018
 
2019
 
2018
 
 
 
 
 
 
 
 
 
 
 
(in thousands)
Sales, general and administrative
 
$
1,413

 
$
484

 
$
2,681

 
$
586

Research and development
 
481

 
986

 
1,049

 
1,627

Total
 
$
1,894

 
$
1,470

 
$
3,730

 
$
2,213

 
 
 
 
 
 
 
 
 
Stock Options
 
 
 
 
 
 
 
 
 
 
 
Number of Options Outstanding
 
Weighted-Average Exercise Price
 
Weighted-Average Remaining Contractual Term (in years)
 
Aggregate Intrinsic Value (in thousands)
Balances at December 31, 2018
 
1,486,363

 
$
11.43

 
8.74
 
$
23,778

Granted (weighted-average fair value of $13.57 per share)
 
439,000

 
24.39

 
 
 
 
Exercised
 
(28,230
)
 
6.22

 
 
 
 
Forfeited/canceled
 
(20,296
)
 
13.11

 
 
 
 
Balances at June 30, 2019
 
1,876,837

 
$
14.52

 
8.50
 
$
15,724

 
 
 
 
 
 
 
 
 
As of June 30, 2019, 549,795 options were vested and exercisable with weighted-average exercise price of $5.32 per share and a total aggregate intrinsic value of $9.2 million.

28

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

During the six months ended June 30, 2019, 28,230 options were exercised at a price of $6.22 per share. The intrinsic value of the options exercised during the six months ended June 30, 2019 was $0.4 million. Upon the exercise of stock options, the Company issued new shares from its authorized shares.
At June 30, 2019, unrecognized compensation expense was $8.8 million related to stock options granted to employees and Board of Directors and $3.8 million related to stock options granted to consultants. The weighted-average period over which such compensation expense will be recognized is 2.6 years.
Stock Options Granted to Employees
Share-based compensation expense for employees is based on the grant date fair value. The Company recognizes compensation expense for all share-based awards ratably on a straight-line basis over the requisite service period of the awards, which is generally the vesting term of four years. During the six months ended June 30, 2019 and 2018, the Company recognized $0.9 million and $0.3 million, respectively, of stock-based compensation expense for stock options granted to employees.
The Company uses the Black-Scholes option valuation model to value options granted to employees and consultants, which requires the use of highly subjective assumptions to determine the fair value of share-based awards. The assumptions used in the Company’s option-pricing model represent management’s best estimates. These estimates are complex, involve a number of variables, uncertainties and assumptions and the application of management’s judgment. If factors change and different assumptions are used, the Company’s share-based compensation expense could be materially different in the future. The assumptions and estimates that the Company uses in the Black-Scholes model are as follows:
Fair Value of Common Shares. Following the IPO, the closing price of the Company’s publicly-traded common shares on the date of grant is used as the fair value of the shares. Prior to the IPO, the fair value of ordinary shares was estimated on a periodic basis by the Company’s Board of Directors, with the assistance of an independent third-party valuation firm.  The Board of Directors intended all options granted to be exercisable at a price per share not less than the estimated per share fair value of the shares underlying those options on the date of grant.
Risk-Free Interest Rate. The Company bases the risk-free interest rate used in the Black-Scholes valuation model on the implied yield available on U.S. Treasury zero-coupon issues with a term equivalent to that of the term of the options for each option group on the measurement date.
Term. For employee stock options, the expected term represents the period that the Company’s share-based awards are expected to be outstanding. Because of the limitations on the sale or transfer of the Company’s shares during the period the Company was a privately held company, the Company does not believe its historical exercise pattern is indicative of the pattern it will experience as a publicly traded company. The Company consequently uses the Staff Accounting Bulletin 110, or SAB 110, simplified method to calculate the expected term of employee stock options, which is the average of the contractual term and vesting period. The Company plans to continue to use the SAB 110 simplified method until it has sufficient trading history as a publicly traded company. For consultant stock options, the term used is equal to the remaining contractual term on the measurement date.
Volatility. The Company determines the price volatility based on the historical volatilities of industry peers as it does not have sufficient trading history for its shares. Industry peers consist of several public companies in the medical device industry with comparable characteristics, including revenue growth, operating model and working capital requirements. The Company intends to continue to consistently apply this process using the same or a similar peer group of public companies until a sufficient amount of historical information regarding the volatility of its own shares becomes available, or unless circumstances change such that the identified peer companies are no longer similar, in which case other suitable peer companies whose common share prices are publicly available would be utilized in the calculation. The volatility is calculated based on the term on the measurement date.
Dividend Yield. The expected dividend assumption is based on the Company’s current expectations about its anticipated dividend policy. The Company has no expectation that it will declare dividends on its common shares, and therefore has used an expected dividend yield of zero.

29

ESTABLISHMENT LABS HOLDINGS, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

The fair value of stock options granted to employees was estimated using the following assumptions:
 
 
 
 
 
 
 
Six Months Ended June 30,
 
 
2019
 
2018
Volatility
 
56%
 
57%
Risk-free interest rate
 
1.9% - 2.6%
 
2.7% - 2.9%
Term (in years)
 
6.25
 
6.25
Dividend yield
 
0%
 
0%
 
 
 
 
 
Stock Options Granted to Non-Employees
Stock-based compensation expense related to stock options granted to non-employees is recognized as the stock options are earned using an accelerated attribution method. The Company believes that the estimated fair value of the stock options is more readily measurable than the fair value of the services rendered. For the six months ended June 30, 2019 and 2018, the Company recognized expense of $2.1 million and $1.2 million for stock options granted to consultants.
The fair value of stock options granted to consultants was estimated using the following assumptions during the following periods presented: