CASTLE BIOSCIENCES INC (CSTL) FY 2021 MD&A

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

You should read the following discussion and analysis of financial condition and results of operations together with our consolidated financial statements and related notes included elsewhere in this Annual Report on Form 10-K. This discussion and other parts of this Annual Report on Form 10-K contain forward-looking statements that involve risk and uncertainties, such as statements of our plans, objectives, expectations and intentions. Our actual results, performance or achievements could differ materially from any future results, performance or achievements discussed in these forward-looking statements. Factors

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that could cause or contribute to such differences include, but are not limited to, those discussed in the section titled “Risk Factors.”

Overview

Castle Biosciences is improving health through innovative tests that guide patient care. For the diseases that our portfolio of tests cover, we believe the traditional approach to developing a treatment plan for cancers and other diseases using clinical and pathology factors alone is inadequate and can be improved by incorporating the personalized information our diagnostic and prognostic tests provide.

We currently market five proprietary MAAAs, designed to answer clinical questions in dermatologic cancers, UM and BE. Our revenue is primarily generated by our DecisionDx®-Melanoma risk stratification test for cutaneous melanoma and our DecisionDx®-UM risk stratification test for UM.

The foundation of our business is our dermatologic cancer franchise, and our lead product is DecisionDx-Melanoma, a proprietary risk stratification GEP test that predicts the risk of metastasis, or recurrence for patients diagnosed with invasive cutaneous melanoma, a deadly skin cancer. In the management of melanoma, as with nearly all diseases, treatment plans are directed by patient risk-stratification. This test has two distinct, complementary clinically actionable uses. The first revolves around predicting the likelihood of having a SLN negative biopsy result so that physicians and patients can discuss the risk and benefit of undergoing the SLNB surgical procedure. The second use is to inform the appropriate treatment plan during the initial five years post-diagnosis, regardless of the decision to undergo or avoid invasive SLNB surgery. In a typical year, we estimate approximately 130,000 patients are diagnosed with invasive cutaneous melanoma in the United States. We launched DecisionDx-Melanoma in May 2013. Based on the substantial clinical evidence that we have developed, we have received Medicare coverage for DecisionDx-Melanoma, which represents approximately 50% of the addressable patient population for this test.

On August 31, 2020, we commercially launched our SCC proprietary GEP test, DecisionDx®‑SCC, for use in patients with one or more risk factors (also referred to as “high-risk” SCC). On November 2, 2020, we commercially launched our proprietary GEP test for difficult-to-diagnose melanocytic lesions, DecisionDx® DiffDx™-Melanoma for use in patients with a melanocytic lesion and uncertainty related to the malignancy of the lesion. We believe that these two additional skin cancer tests address areas of high clinical need in dermatological cancer and, together, represent an estimated addressable population of approximately 500,000 patients in the United States.

We further expanded our commercially available dermatologic portfolio in May 2021 when we acquired the myPath Laboratory from Myriad Genetics, Inc. for a cash purchase price of $32.5 million. myPath Melanoma is a clinically validated GEP test that addresses the same unmet clinical need as our DecisionDx DiffDx-Melanoma test. Today, we offer both our myPath Melanoma test and our DecisionDx DiffDx-Melanoma test under an offering that we refer to as our CDO of molecular testing solutions. By offering both of these tests in a single offering, we believe we have demonstrated the ability to improve the test result performance for patients with difficult-to-diagnose melanocytic lesions.

In 2021, we announced the launch of our innovative pipeline initiative to develop a genomic test aimed at predicting response to systemic therapy in patients with moderate to severe psoriasis, atopic dermatitis and related inflammatory skin conditions. In the U.S. alone, there are approximately 18 million patients diagnosed with psoriasis and atopic dermatitis. Approximately 450,000 of these patients annually are eligible for systemic therapies. If successful, this inflammatory skin disease pipeline test has the potential to add approximately $1.9 billion to our current estimated U.S. TAM. In 2021, we initiated a 4,800 patient, prospective, multi-center clinical study to develop and validate this pipeline test and have 50 committed centers, out of the initial target of 50. Based upon our current development and validation timelines, we expect to commercialize this pipeline test by the end of 2025.

In addition to our dermatologic franchise, we also market a test for patients diagnosed with UM, a rare cancer of the eye. DecisionDx®-UM is a proprietary, risk stratification GEP test that predicts the risk of metastasis for patients with UM. We believe DecisionDx-UM is the standard of care in the management of newly diagnosed UM in the majority of ocular oncology practices in the United States. We launched DecisionDx-UM in January 2010. Based on the substantial clinical evidence that we have developed, we received Medicare coverage for DecisionDx-UM, which represents approximately 50% of the addressable patient population.

In December 2021, we extended our commercial portfolio of proprietary tests into the gastroenterology market through our acquisition of Cernostics and the TissueCypher® platform. The TissueCypher platform focuses on unlocking, in the case of the initial test for use in patients with BE, the importance of the location of the expression of proteins or lack thereof within the morphology of the disease (also known as spatialomics). This “spatialomic” information is then interpreted using artificial intelligence approaches to predict the likelihood of progression to high-grade dysplasia and/or esophageal cancer in patients with non-dysplastic, indefinite or low-grade dysplasia BE. We believe the addition of expertise in the spatialomics area

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positions us for continued growth and success in the diagnostics space, complementing our first-to-market dermatologic franchise and our proprietary test for UM.

The number of test reports we generate is a key indicator that we use to assess our business. A test report is generated when we receive a sample in our laboratory, and then the relevant test information is entered into our Laboratory Information Management System, the expression of the biomarkers is measured, then a proprietary algorithmic analysis of the combined biomarkers is performed to generate a report providing the results of that analysis, which is sent to the clinician who ordered the test. The numbers of GEP test reports delivered by us during the years ended December 31, 2021 and 2020 are presented in the table below:

(1)We commercially launched DecisionDx-SCC on August 31, 2020.

(2)Includes DecisionDx DiffDx-Melanoma, which we commercially launched on November 2, 2020, and myPath Melanoma, which we began offering following our acquisition of Myriad myPath Laboratory on May 28, 2021. We offer both our myPath Melanoma and DecisionDx DiffDx-Melanoma under our CDO.

For the year ended December 31, 2021, our dermatologic test report volume increased by 57.8%, reflecting growth in DecisionDx-Melanoma as well as the full year availability of DecisionDx-SCC and DecisionDx DiffDx-Melanoma (now offered as part of CDO). For a discussion of how we recognize revenue derived from our GEP tests, refer to “Net Revenues” under “Components of Results of Operations” below.

The principal focus of our current commercial efforts is to educate clinicians and pathologists on the value of our molecular diagnostic testing products through our direct sales force in the U.S. In dermatology, we began 2020 with 32 outside sales territories. In the third quarter of 2020, we expanded our dermatologic commercial team to create a dedicated sales force of ten territories to support the launch of our DecisionDx Diff-Dx Melanoma test to dermatopathologists. During the first half of 2021, we folded this dedicated team into our existing sales team and completed a further expansion, bringing our dermatologic sales force to the mid-60s. In connection with our acquisition of Cernostics in December 2021, we hired an initial commercial team of approximately 14 outside sales territories, along with commensurate internal sales associates and medical science liaisons, to support our launch of the TissueCypher Barrett’s Esophagus Assay. This dedicated team focuses on gastroenterology specialists that diagnose and manage patients with BE. However, we will continue to evaluate our mix of outside sales territories, inside sales support, marketing and medical affairs in the context of our dermatologic tests and gastroenterology tests and adjust our investments based upon these evaluations.

We continue to see new clinicians order our dermatologic tests for the first time. For the year ended December 31, 2021, we saw approximately 1,938 new ordering clinicians for our dermatologic tests compared to 1,396 during the same period of 2020. Total ordering clinicians for our dermatologic tests were approximately 5,900 for the year ended December 31, 2021.

For additional information on the metrics we disclose, refer to “Information about certain metrics” below.

In developing our DecisionDx-SCC and DecisionDx DiffDx-Melanoma tests, we believed that in addition to addressing significant unmet clinical needs, we would see strategic opportunities for leverage, as many of the clinicians currently ordering DecisionDx-Melanoma would likely be the same clinicians who would find value in these other skin cancer tests. For example,

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we found that for the year ended December 31, 2021, approximately 78% of all clinicians ordering DecisionDx-SCC had also ordered our DecisionDx-Melanoma test during that same period.

We bill third-party payors and patients for the tests we perform. The majority of our revenue collections is paid by third-party insurers, including Medicare. We have received LCDs, which provide coverage for our DecisionDx-Melanoma, myPath Melanoma and DecisionDx-UM tests that meet certain criteria for Medicare and Medicare Advantage beneficiaries, representing approximately 60 million covered lives. In 2022, DecisionDx-UM has received coverage from United Healthcare that will represent approximately 43 million covered lives. A ‘‘covered life’’ means a subscriber, or a dependent of a subscriber, who is insured under an insurance carrier’s policy.

Palmetto, the MAC responsible for administering MolDX, the program that assesses molecular diagnostic technologies, issued a final expanded LCD for DecisionDx-Melanoma, effective November 22, 2020. With this expanded LCD and the accompanying billing and coding articles, we estimate that a significant majority of the DecisionDx-Melanoma tests performed for Medicare patients will meet the coverage criteria. Noridian, the MAC responsible for administering claims for laboratory services performed in Arizona, has adopted the same coverage policy as Palmetto and also issued an expanded final LCD for DecisionDx-Melanoma, effective December 6, 2020.

Separately, Palmetto issued a final LCD for DecisionDx-UM, which became effective in July 2017, and Noridian issued a similar LCD that became effective in September 2017. The Noridian LCD provides for coverage to determine metastatic risk in connection with the management of a patient’s newly diagnosed uveal melanoma and to guide surveillance and referral to medical oncology for those patients. Similar to cutaneous melanoma, the median age at diagnosis for uveal melanoma is estimated at 58-62 years old, therefore the Medicare eligible population represents close to 45% of the addressable market.

On May 17, 2019, CMS determined that DecisionDx-UM meets the criteria for “existing advanced diagnostic laboratory test” status, also referred to as “existing ADLT” status. For 2020, our rate was set by Noridian, our local MAC, but effective in 2021 our rate is set annually based upon the median private payor rate for the first half of the second preceding calendar year. Our rate for 2021 was $7,776 and will remain at $7,776 for 2022, in each case based on the calculation of the median private payor rate.

Also, on May 17, 2019, CMS determined that DecisionDx-Melanoma meets the criteria for “new ADLT” status. Accordingly, from July 1, 2019 through March 31, 2020, the Medicare reimbursement rate was equal to the initial list price of $7,193. From April 1, 2020 through December 31, 2021, the rate was also $7,193, which was calculated based upon the median private payor rate for DecisionDx-Melanoma from July 1, 2019 to November 30, 2019. CMS has informed us that the rate for 2022 will continue to be $7,193, based on the median private payor rate.

myPath Melanoma is currently covered under a MolDX LCD policy through Noridian that oversees laboratories in both Utah and Arizona. Noridian issued an LCD that became effective in June 2019. On September 6, 2019, myPath Melanoma was approved as a new ADLT. The rate for 2022 will be $1,950.

TissueCypher is performed in our Pittsburgh, Pennsylvania laboratory and falls under the Medicare jurisdiction that is managed by Novitas. Novitas previously reviewed TissueCypher and we are receiving payments for claims according to the CLFS. For 2022, CMS published in its CLFS a payment amount of $2,513 for the test.

Beginning in 2023, the rates for DecisionDx-Melanoma, DecisionDx-UM, and myPath Melanoma tests will be set annually based upon the median private payor rate for the first half of the second preceding calendar year. For example, the rate for 2023 will be set using median private payor rate data from January 1, 2021 to June 30, 2021.

In the second quarter of 2020, we submitted our technical assessment dossier for DecisionDx-SCC to Palmetto and Noridian. The dossier was accepted as complete in the third quarter of 2020. In early 2021, we submitted our technical assessment dossier for DecisionDx DiffDx-Melanoma. The dossier was accepted as complete in the first quarter of 2021. We expect that draft LCDs for DecisionDx-SCC and DecisionDx DiffDx-Melanoma could potentially be posted by the end of the second quarter of 2022 resulting in potentially final LCDs effective in 2023. However, there is no assurance that the timing of any draft or final LCD will match our expectations or our historical experience with LCDs for our other tests.

In the second quarter of 2021, Palmetto and the other MACs that participate in the MolDX program posted a revised draft LCD for DecisionDx-Melanoma. The draft LCD includes commentary about two publications regarding the clinical utility of GEP tests and was posted to give providers an opportunity to comment. Each of the draft LCDs include an assessment stating that the MAC does not believe that the new data is sufficient to change the coverage criteria. We have submitted comments on the draft LCD. The comment period on the last of these draft LCDs closed on August 8, 2021. We are unable to predict when the final draft LCD will be posted.

Since becoming a public company, we have financed our operations with the revenue generated from the sale of our products, proceeds from our July 2019 IPO, follow-on public offerings of common stock in June 2020 and December 2020 and bank debt, which has since been repaid in full. We believe that our existing cash and cash equivalents and anticipated cash generated

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from sales of our products will be sufficient to fund our operations for the next 12 months and into the foreseeable future. However, we have based these estimates on assumptions, including those related to the impact of COVID-19 on our financial condition, that may prove to be wrong, and could result in us depleting our capital resources sooner than expected.

Our net (loss) income may fluctuate significantly from period to period, depending on the timing of our planned development activities, the growth of our sales and marketing activities and the timing of revenue recognition under ASC 606. We expect our expenses will increase substantially over time as we:

•execute clinical studies to generate evidence supporting our current and future product candidates;

•execute our commercialization strategy for our current and future commercial products;

•continue our ongoing and planned development of new products in our pipeline;

•seek to discover and develop additional product candidates;

•hire additional scientific and research and development staff; and

•add additional operational, financial and management information systems and personnel.

Furthermore, we expect to continue to incur additional costs associated with operating as a public company, including significant legal, accounting, investor relations and other expenses.

Impact of COVID-19 Pandemic

We are continuing to closely monitor the impact of the COVID-19 pandemic on our business and taking proactive efforts designed to protect the health and safety of our workforce, continue our business operations and advance our corporate objectives. We are providing the following update with respect to the impact of COVID-19 on our business:

•We have maintained, and expect to continue to maintain, uninterrupted business operations with adequate access to reagents and consumables needed for testing patient samples and normal turnaround times for our delivery of test reports. We have continued to maintain our previously implemented adjustments to our operations designed to keep employees safe and comply with federal, state and local guidelines, including those regarding social distancing.

•Following the onset of the COVID-19 pandemic, we experienced declines in orders and test report volume. For example, in the second quarter of 2020, test reports delivered for our lead product, DecisionDx-Melanoma, decreased 18.5% compared to the second quarter of 2019. For the year ended December 31, 2020, our growth in DecisionDx-Melanoma test report volume was 4.5%, compared to year-over-year growth of 29.1% for the year ended December 31, 2019. Our analysis of third-party data indicates that cutaneous melanoma diagnoses for the year ended December 31, 2020 were down approximately 20% compared to the year ended December 31, 2019. In the first quarter of 2021, test reports delivered for DecisionDx-Melanoma decreased by 11.2% compared to the first quarter of 2020. We believe these decreases in our test report volume were linked to delays and/or cancellations in patient visits, resulting in fewer diagnostic biopsies and thus a reduction in the number of diagnoses of cutaneous melanoma in response, as well as the cumulative impact on promotional responsiveness as a result of reduced sales calls per day and in-person sales call during the COVID-19 pandemic.

•We saw positive trends in orders and test report volumes in the second, third, and fourth quarters of 2021. In the second, third and fourth quarters of 2021, test reports delivered for DecisionDx-Melanoma increased by 70.5%, 25.0% and 32.7%, respectively, compared to the same quarters in 2020.

•Our commercial team uses a combination of in-person, virtual, and non-personal promotional and educational efforts. Since the beginning of 2021, we have seen improvements in the number of promotional calls per day, as well as a continued shift from virtual to in-person sales calls. During the three-months ended December 31, 2021, in-person sales calls accounting for over 90% of all calls during such period. However, we have not yet achieved pre-COVID-19 levels of calls per day per sales representative.

•Our future results will be dependent upon the extent and duration of the COVID-19 crisis, including the emergence and spread of variants of the virus, such as the Omicron variant, and government restrictions, which are beyond our control. Although state and local government restrictions put in place to slow the spread of the virus have been eased in certain locations, restrictions may be reinstated from time to time in various regions depending on the circumstances, potentially impacting the flow of future patient visits as well as access to our sales targets. Even with the easing of state and local restrictions and the availability of vaccinations, patient visits and diagnoses of cutaneous melanoma may be impacted by continued apprehension regarding possible exposure to the virus. For example, our

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analysis of third-party data indicates that cutaneous melanoma diagnoses during the year ended December 31, 2021 remain approximately 11% below the pre-COVID, 2019 levels.

•We continue to believe our cash, cash equivalents and anticipated cash to be generated from sales of our products, will be sufficient to fund our operations for the next 12 months and into the foreseeable future.

As conditions are continuously evolving, we are unable to predict how our future test report volume will be impacted, or the extent to which our results of operations, financial condition or cash flows will be impacted, by the COVID-19 pandemic, or other future public health crises. Accordingly, the test report data presented above is not necessarily indicative of our results of operations that can be expected for future periods. For more information on the potential impact of the COVID-19 pandemic on our business, see the risk factors included under “Risks Related to Our Business” and the other risk factors included in Part I, Item 1A., “Risk Factors,” of this Annual Report on Form 10-K.

Factors affecting our performance

We believe there are several important factors that have impacted, and that we expect will continue to impact, our operating performance and results of operations, including:

•Report volume. We believe that the number of reports we deliver to physicians is an important indicator of the growth of adoption among the healthcare provider community. Our revenue and costs are affected by the volume of testing and mix of customers. Our performance depends on our ability to retain and broaden adoption with existing prescribing physicians, as well as attract new physicians. In the near term, our report volume may be negatively impacted by ongoing developments of the COVID-19 pandemic as discussed above.

•Reimbursement. We believe that expanding reimbursement is an important indicator of the value of our products. Payors require extensive evidence of clinical utility, clinical validity, patient outcomes and health economic benefits in order to provide reimbursement for diagnostic products. Our revenue depends on our ability to demonstrate the value of our products to these payors.

•Gross margin. We believe that our gross margin is an important indicator of the operating performance of our business. Higher gross margins reflect the average selling price of our tests, as well as the operating efficiency of our laboratory operations.

•New product development. A significant aspect of our business is our investment in research and development activities, including activities related to the development of new products. In addition to the development of new product candidates, we believe these studies are critical to gaining physician adoption of new products and driving favorable coverage decisions by payors for such products.

Information about certain metrics

The following provides additional information about certain metrics we have disclosed in this Management’s Discussion and Analysis of Financial Condition and Results of Operation.

Test reports delivered for DecisionDx-Melanoma, DecisionDx-SCC, myPath Melanoma/DecisionDx DiffDx-Melanoma, DecisionDx-UM and TissueCypher Barret’s Esophagus Assay represents the number of completed test reports delivered by us during the reporting period indicated. The period in which a test report is delivered does not necessarily correspond with the period the related revenue, if any, is recognized, due to the timing and amount of adjustments for variable consideration under ASC 606. We use this metric to evaluate the growth in adoption of our tests and to measure against our internal performance objectives. We believe this metric is useful to investors in evaluating the volume of our business activity from period-to-period that may not be discernible from our reported revenues under ASC 606. We also sometimes present, on a limited basis, data on the number of orders received. We believe order data can provide additional insight on current demand trends, particularly during the COVID-19 pandemic and with respect to new product launches, when considered in conjunction with test report volume. However, orders received in a particular period do not necessarily correspond with actual delivered test reports or reported revenues for the same period or subsequent periods.

New ordering clinicians for our dermatologic tests represents the number of clinicians who ordered a dermatologic test from us for the first time during the reporting period specified. Our dermatologic tests consist of DecisionDx-Melanoma, DecisionDx-SCC and our CDO. We believe this metric is useful in evaluating the effectiveness of our sales and marketing efforts in establishing new relationships with clinicians and increasing the adoption of our suite of dermatologic tests. We also believe this metric provides useful information to investors in assessing our ability to expand the use of our dermatologic tests. Since this metric is based upon the reporting period in which an order is placed, it does not necessarily correspond to the reporting period in which a test report was delivered or revenue was recognized.

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Components of the Results of Operations

Net Revenues

We generate revenues from the sale of our products. Currently, our revenues are primarily derived from the sale of DecisionDx-Melanoma and DecisionDx-UM. We bill third-party payors and patients for the tests we perform.

Under ASC 606, we recognize revenue at the amount we expect to be entitled, subject to a constraint for variable consideration, in the period in which our tests are delivered to the treating physicians. We have determined that our contracts contain variable consideration under ASC 606 because the amounts paid by third-party payors may be paid at less than our standard rates or not paid at all, with such differences considered implicit price concessions. Variable consideration is recognized only to the extent it is probable that a significant reversal of revenue will not occur in future periods when the uncertainties are resolved. Variable consideration is evaluated each reporting period and adjustments are recorded as increases or decreases in revenues. Variable consideration for Medicare claims that are not covered by an LCD, including those claims subject to approval by an ALJ at an appeal hearing, is deemed to be fully constrained due to factors outside our influence (i.e., judgment or actions of third parties) and the uncertainty of the amount to be received is not expected to be resolved for a long period of time. For these fully constrained claims, we generally recognize revenue in the period the uncertainty is favorably resolved, if at all. Due to potential future changes in Medicare coverage policies and appeal cycles, insurance coverage policies, contractual rates and other trends in the reimbursement of our tests, our revenues may fluctuate significantly from period-to-period. Additionally, our ability to recognize revenue for our recently launched tests, DecisionDx-SCC and DecisionDx DiffDx-Melanoma, is dependent on the development of reimbursement experience and coverage decisions for these tests. Due to limited reimbursement experience, we are currently recognizing revenues for these two tests on the basis of actual cash collections.

Our ability to increase our revenues will depend on our ability to further penetrate our target markets, and, in particular, generate sales through our direct sales force, develop and commercialize additional tests, obtain reimbursement from additional third-party payors and increase our reimbursement rate for tests performed.

Cost of Sales (exclusive of amortization of acquired intangible assets)

The components of our cost of sales are material and service costs associated with testing samples, personnel costs (including salaries, bonuses, benefits and stock-based compensation expense), electronic medical record set up costs, order and delivery systems, shipping charges to transport samples, third-party test fees, and allocated overhead including rent, information technology costs, equipment and facilities depreciation and utilities. Costs associated with testing samples are recorded when the test is processed, regardless of whether and when revenues are recognized with respect to that test. As a result, our cost of sales as a percentage of revenues may vary significantly from period-to-period because we do not recognize all revenues in the period in which the associated costs are incurred. We expect cost of sales in absolute dollars to increase as the number of tests we perform increases. Additionally, we expect cost of sales to increase with the expansion of laboratory capacity and staffing in advance of the anticipated growth of our recently launched tests.

Gross margin and gross margin percentage are key indicators we use to assess our business. See the table in “Results of Operations—Comparison of the years ended December 31, 2021 and 2020” for details.

Research and Development

Research and development expenses include costs incurred to develop our genomic tests, collect clinical samples and conduct clinical studies to develop and support our products. These costs consist of personnel costs (including salaries, bonuses, benefits and stock-based compensation expense), prototype materials, laboratory supplies, consulting costs, regulatory costs, electronic medical records set up costs, costs associated with setting up and conducting clinical studies and allocated overhead, including rent, information technology, equipment depreciation and utilities. We expense all research and development costs in the periods in which they are incurred. We expect our research and development expenses to increase in absolute dollars as we continue to invest in research and development activities related to developing enhanced and new products.

We expect to use a portion of our cash and cash equivalents to further support and accelerate our research and development activities, including three important studies that are underway to support our DecisionDx-Melanoma test. The first is the PERSONALize study, in which we are evaluating DecisionDx-Melanoma for interactions with adjuvant therapies. The second is the CONNECTION study, which is collecting long-term outcomes for up to 10,000 patients who have been tested with DecisionDx-Melanoma. The third is the DECIDE study, which is designed to determine the association of GEP test results with SLNB surgical decisions in patients eligible for SLNB as well as to track outcomes for patients who did and did not undergo SLNB. Also, as noted above, we recently initiated a 4,800 patient, prospective, multi-center clinical study to develop, validate and bring to market a pipeline test aimed at predicting response to systemic therapy in patients with moderate to severe psoriasis, atopic dermatitis and related inflammatory skin conditions. We have also initiated two additional disease studies for pipeline tests for new indications.

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Selling, General and Administrative

Selling, general and administrative (“SG&A”) expenses include executive, selling and marketing, legal, finance and accounting, human resources, billing and client services. These expenses consist of personnel costs (including salaries, bonuses, benefits and stock-based compensation expense), direct marketing expenses, audit and legal expenses, consulting costs, training and medical education activities, payor outreach programs and allocated overhead, including rent, information technology, equipment depreciation, and utilities. We expect continued increases in SG&A expenses related to compliance with the rules and regulations of the SEC and Nasdaq (in particular as we no longer qualify as an emerging growth company and a smaller reporting company, and have become a large accelerated filer), investor relations activities and additional insurance expenses. Other administrative and professional services expenses within SG&A are expected to increase with the scale of our business, but selling and marketing-related expenses are expected to increase significantly, consistent with our growth strategy.

Amortization of Acquired Intangible Assets

Amortization of acquired intangible assets are primarily associated with developed technology.

Other Operating Income

Other operating income consists of an automatic payment received from HHS for provider relief funds pursuant to the CARES Act.

Interest Income

Interest income consists primarily of earnings on cash and cash equivalents, primarily money market funds.

Interest Expense

Interest expense is primarily attributable to borrowings under our term debt, which was fully repaid in December 2020, and also includes the related amortization of debt discount and issuance costs.

Loss on Extinguishment of Debt

The loss on extinguishment of debt is associated with the early repayment of our term loan facility in December 2020.

Income Tax (Benefit) Expense

In connection with our acquisition of Cernostics in December 2021, and taking into consideration the additional deferred tax liabilities resulting from such acquisition, we determined that a portion of our valuation allowance should be reduced, which was reflected in our income tax benefit for the year ended December 31, 2021. Our consolidated financial statements do not reflect any federal or state income tax benefits attributable to the net losses we have incurred, due to the uncertainty of realizing a benefit from those items. As of December 31, 2021, we had federal NOL carryforwards of $99.4 million, of which $43.5 million will begin to expire in 2030 if not utilized to offset federal taxable income, and $55.9 million may be carried forward indefinitely. Also, as of December 31, 2021, we had state NOL carryforwards of $67.5 million, which begin to expire in 2028 if not utilized to offset state taxable income.

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Results of Operations

Certain prior year amounts in the tables below have been reclassified to conform to the current year presentation. Specifically, we no longer present gross margin on the face of our financial statements and therefore the cost of sales line is now presented within the operating expenses section. This reclassification had no impact on operating loss, loss before income taxes or net loss.

Comparison of the Years Ended December 31, 2021 and 2020

The following table summarizes our results of operations for the periods indicated (in thousands, except percentages):

(1) NA = Not applicable

(2) NM = Not meaningful

The following table indicates the amount of stock-based compensation expense reflected in the line items above (in thousands):

The following table provides a disaggregation of net revenues by type (in thousands):

(1)Dermatologic includes DecisionDx-Melanoma, DecisionDx-SCC and CDO.

(2)Other consists primarily of DecisionDx-UM.

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The following table presents the calculation of gross margin (in thousands, except percentages):

Net Revenues

Net revenues increased by $31.4 million, or 50.2%, to $94.1 million for the year ended December 31, 2021, primarily due to higher revenues from our dermatologic tests, which increased by $28.1 million. The higher dermatologic test revenue was primarily attributable to higher volume from DecisionDx-Melanoma, which increased 25.2%, higher per-unit revenues for DecisionDx-Melanoma, which reflect the expanded LCD for the test that became effective in the fourth quarter of 2020, and increased revenues from DecisionDx-SCC and our CDO. We believe the higher test report volume for DecisionDx-Melanoma during the year ended December 31, 2021 reflects the relaxing of COVID-19 restrictions, and the related positive impacts on the flow of patient visits, as well as the effects of our sales force expansions discussed above. Revenues from other tests (non-dermatologic) contributed $3.3 million to the overall increase in net revenues for the year ended December 31, 2021. This increase was principally due to the significantly higher Medicare rate for DecisionDx-UM that became effective January 1, 2021 and, to a lesser extent, the effect of a 16.0% increase in DecisionDx-UM test report volume. We believe the higher test report volume for DecisionDx-UM during the year ended December 31, 2021 is due in part to patients making up for missed eye exams from 2020 due to COVID-19 impacts. Net revenues include positive revenue adjustments related to tests delivered in previous periods, associated with changes in estimated variable consideration, of $3.3 million for the year ended December 31, 2021 compared to $0.2 million for the year ended December 31, 2020. The year-over-year increase is primarily attributable to favorable adjustments related to the settlement and collection during the year ended December 31, 2021 of certain groups of receivables from prior years.

Cost of Sales (exclusive of amortization of acquired intangible assets)

Cost of sales (exclusive of amortization of acquired intangible assets) for the year ended December 31, 2021 increased by $6.1 million, or 63.4%, compared to the year ended December 31, 2020, primarily due to higher personnel costs due to additional headcount in our laboratory testing operations, and increased costs of supplies and services, attributable to the higher activity levels. The additional personnel costs included a year-over-year increase in stock-based compensation expense of $1.0 million. Due to the nature of our business, a significant portion of our cost of sales expenses represent fixed costs associated with our testing operations. Accordingly, our cost of sales expense will not necessarily increase or decrease commensurately with the change in net revenues from period to period. We expect our cost of sales (exclusive of amortization of acquired intangible assets) to continue to increase in future periods as we hire additional laboratory personnel and related resources to support our expected growth in volume for our dermatologic, GI and pipeline tests

Gross Margin

Our gross margin percentage was 81.1% for the year ended December 31, 2021, compared to 84.5% for the same period in 2020. The decrease was largely due to amortization expense associated with our acquired intangible assets. In the near term, we expect that our gross margin percentage will decline as we invest in additional laboratory personnel and related resources to support the anticipated growth in our report volumes for tests in advance of obtaining reimbursement coverage. Additionally, our gross margin percentage will be negatively impacted by amortization of intangible assets associated with recent acquisitions.

Research and Development

Research and development expenses increased by $16.4 million, or 123.6%, for the year ended December 31, 2021, compared to the year ended December 31, 2020, primarily due to increases in personnel costs and costs incurred in our clinical studies. Approximately 55% of the increase is attributable to higher personnel costs, due to expansions in headcount in support of our growth, including higher stock-based compensation expense of $3.0 million compared to 2020. Approximately 27% of the increase was attributable to higher costs for clinical studies, including costs related to the PERSONALize, CONNECTION and DECIDE studies as well as our recently initiated a 4,800 patient, prospective, multi-center clinical study to develop, validate and bring to market a pipeline test for inflammatory skin diseases. Also, during the year ended December 31, 2021, we expanded evidence supporting our portfolio of tests with 15 peer-reviewed publications and initiated our collaboration with

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NCI/SEER. We expect to continue to increase our research and development expenses as we fund ongoing evidence development for our existing products as well as additional pipeline programs.

Selling, General and Administrative

SG&A expense increased by $38.6 million, or 80.2%, for the year ended December 31, 2021 compared to the year ended December 31, 2020. Approximately 67% of the increase is attributable to higher personnel costs, particularly due to increased headcount, which includes salaries, stock-based compensation and bonuses. We expanded our sales organization headcount in the third quarter of 2020 in preparation for the commercial launch of our DecisionDx DiffDx-Melanoma test and further expanded our sales team during the first and second quarters of 2021, bringing our dermatology-facing commercial team to the mid-60s. The higher personnel costs also reflect expanded headcount in our administrative support functions. Stock-based compensation expense included in SG&A expense was $15.2 million for the year ended December 31, 2021 compared to $5.8 million for the year ended December 31, 2020. The remainder of the increase in SG&A expense was primarily associated with training events, travel, professional fees and other general increases. The higher expenses for training events and travel reflect both a higher headcount as well a return to more in-person activities in 2021 as result of easing of COVID-19 restrictions.

Amortization of Acquired Intangible Assets

Amortization of acquired intangible assets was $2.0 million for the year ended December 31, 2021 and was entirely associated with amortization of developed technology attributable to the acquisitions of Myriad myPath, LLC and Cernostics in May 2021 and December 2021, respectively. There was no such amortization during the year ended December 31, 2020. Amortization of acquired intangible assets is projected to be approximately $6.7 million for the year ending December 31, 2022, but may increase in the future to the extent we complete additional acquisitions.

Other Operating Income

Other operating income of $1.9 million for the year ended December 31, 2020 consisted entirely of the automatic payment received from HHS pursuant to the CARES Act for provider relief funds. We initially recognized income attributable to the payment in the second quarter of 2020 based on our expectation of meeting the requirements to retain the funds. However, due a change in requirements of the program in the third quarter of 2020, we reversed this income. However, in the fourth quarter of 2020, a legislative change was enacted affecting the program, under which we concluded it is reasonably assured we will qualify to retain the funds. Accordingly, we recognized the income again in the fourth quarter of 2020. There were no similar transactions during the year ended December 31, 2021. See Note 2 to the consolidated financial statements for additional information.

Interest Income

Interest income decreased by $0.3 million for the year ended December 31, 2021, compared to the year ended December 31, 2020, as a result of lower interest rates, despite our higher average balances of cash and cash equivalents.

Interest Expense

Interest expense was essentially zero for the year ended December 31, 2021 compared to $2.6 million for the year ended December 31, 2020. The decrease is a result of the early termination and repayment of all amounts due on our term loan facility in December 2020.

Loss on Extinguishment of Debt

We recorded an extinguishment loss of $1.4 million during the year ended December 31, 2020 related to the early repayment and termination of our term loan facility. The extinguishment loss was attributable to the write-off of the unamortized discount and issuance costs as well as early termination and prepayment fees. There were no similar transactions during the year ended December 31, 2021.

Income Tax (Benefit) Expense

Income tax (benefit) expense was $(8.7) million for the year ended December 31, 2021 compared to $0.1 million for the year ended December 31, 2020. Substantially all of the income tax (benefit) in the year ended December 31, 2021 was attributable to a reduction in our valuation allowance on net deferred tax assets resulting from our acquisition of Cernostics in December 2021. Specifically, we took into consideration the additional deferred tax liabilities resulting from the acquisition and determined that a portion of our existing valuation allowance should be reduced to offset this liability. Other than this item, the recorded income tax (benefit) expense includes minimal amounts because in both the years ended December 31, 2021 and 2020, the income tax benefit of the net loss was largely offset by corresponding changes in the valuation allowance on net deferred tax assets, as we have determined that it is more likely than not that these benefits will not be realized.

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Stock-Based Compensation Expense

Stock-based compensation expense, which is allocated among cost of sales, research and development expense and SG&A expense, totaled $21.7 million for the year ended December 31, 2021 compared to $8.3 million for the year ended December 31, 2020, which we attribute in part to the addition of 144 employees in 2021, a 71.6% increase from 2020. We expect material increases in stock-based compensation expense in future periods, reflecting additional awards outstanding due to expected growth in our headcount. As of December 31, 2021, the total unrecognized stock-based compensation cost related to outstanding awards was $99.3 million, which is expected to be recognized on a straight-line basis over a weighted-average period of 3.3 years.

Liquidity and Capital Resources

Sources of Liquidity

Our principal sources of liquidity are our cash and cash equivalents and cash generated from the sale of our products. As of December 31, 2021 and 2020, we had cash and cash equivalents of $329.6 million and $409.9 million, respectively. In addition to the revenue generated from the sale of our commercial products, we have financed our operations through our IPO in July 2019, two follow-on public offerings of common stock in June 2020 and December 2020, and a $25.0 million secured term loan credit facility, which we repaid in full in December 2020.

On December 14, 2020, we filed an automatically effective shelf registration statement on Form S-3 (File No. 333-251331) with the SEC as a “well-known seasoned issuer.” The registration statement allows us to issue an indeterminate number or amount of common stock, preferred stock, debt securities and warrants from time-to-time in one or more offerings. However, there can be no assurance that we will complete any such offerings of securities. Any future offerings under this registration statement will be dependent upon, among other factors, market conditions, available pricing, our financial condition, investor perception of our prospects, our capital needs and our ability to maintain status as a well-known seasoned issuer.

Public Offerings of Common Stock

On June 29, 2020 and July 2, 2020, we issued and sold 2,000,000 and 300,000 shares of our common stock, respectively, of our common stock in a follow-on public offering at a price of $37.00 per share. We received $79.5 million in aggregate net proceeds, after deducting underwriting discounts and commissions and offering costs. The shares issued and sold on July 2, 2020 reflect the underwriters’ exercise in full of their 30-day option to purchase additional shares at the public offering price, less underwriting discounts and commissions.

On December 18, 2020, we issued and sold 4,600,000 shares of our common stock (including the exercise in full by the underwriters of their option to purchase an additional 600,000 shares) in a follow-on public offering at a price of $58.00 per share. We received $250.5 million in aggregate net proceeds, after deducting underwriting discounts and commissions and offering costs (excluding $0.4 million in offering costs that were incurred but not paid as of December 31, 2020). The shares issued and sold includes the underwriters’ exercise in full of their 30-day option to purchase additional shares at the public offering price, less underwriting discounts and commissions. On December 21, 2020, we used a portion of these proceeds to repay, in full, our outstanding term loan credit facility. See “Long-Term Debt” below for additional information.

As mentioned above, we expect to use a portion of these proceeds, as well as the approximately $65.9 million of net proceeds from our IPO in July 2019, to further support and accelerate our research and development activities, including the clinical studies noted above.

Medicare Advance Payment

On April 16, 2020, we received an advance payment of $8.3 million (“the Advance Payment”) from CMS under its Accelerated and Advance Payment Program, which was expanded to provide increased cash flow to service providers during the COVID-19 pandemic. CMS began recoupment of the Advance Payment in April 2021 by applying 25% of the Medicare payments otherwise owed to us against the balance of the Advance Payment. Recoupment of the full amount of the Advance Payment was complete by December 31, 2021.

Material Cash Requirements

Our primary uses of capital are, and we expect will continue to be, compensation and related expenses, clinical research and development services, laboratory operations, equipment and related supplies, legal and other regulatory expenses, general administrative costs and, from time to time, expansion of our laboratory and office facilities in support of our growth. We anticipate that a substantial portion of our cash requirements in the foreseeable future will relate to the further commercialization of our currently marketed products, the development of our future product candidates in our pipeline and the potential commercialization of these pipeline products, should their development be successful.

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In the past 12 months we completed two strategic opportunities, which we funded using our available cash on hand, and in the longer-term may evaluate and consummate other strategic acquisitions of businesses, assets, products or technologies, which we expect to be able to fund from our available cash and cash equivalents. In May 2021 and December 2021, we completed the acquisitions of the Myriad myPath Laboratory for $32.5 million and Cernostics, Inc. for $30.7 million, respectively. In both cases, the source of funding was from our existing cash and cash equivalents. Under the definitive agreement with Cernostics, we have also agreed to pay up to an additional $50 million in cash or our common stock, at our sole discretion, based on the achievement of certain commercial milestones relating to the year ending December 31, 2022. Our liability with respect to the commercial milestone payments will depend on our ability to successfully integrate Cernostics into our suite of commercial product offerings, while future cash requirements arising from any additional strategic acquisitions will depend on, among other things, our identification of a target company with a product offering that we view as complementary to our product offerings. See Note 5 to the consolidated financial statements for additional information on recent acquisitions.

Since our inception, we have generally incurred significant losses and negative cash flows. For the year ended December 31, 2021 we had a net loss of $31.3 million and an accumulated deficit of $93.8 million as of December 31, 2021. Our ability to generate revenue sufficient to achieve profitability will depend heavily on the successful commercialization of our currently marketed products and the products we plan to launch in the future as well as our spending on research and development activities. We expect to incur additional expenses and losses in the future as we invest in the commercialization of our existing products, the development of our future product candidates and the commercialization of our product candidates. Further, we expect that any acquisitions of businesses, products, assets or technologies will also increase our expenses. We believe that our existing cash and cash equivalents and anticipated cash generated from the sale of our commercial products will be sufficient to fund our operations for the next twelve months. We believe we will meet longer-term expected cash requirements and obligations through a combination of existing cash and cash equivalents, anticipated cash generated from sales of our products and issuances of equity securities or debt offerings, including through our shelf registration statement on Form S-3 that became automatically effective in December 2020. However, we have based these estimates on assumptions that may prove to be wrong, and we could utilize our available capital resources sooner than we expect. There are numerous risks and uncertainties associated with developing genomic tests, including, among others, the uncertainty of:

•successful commencement and completion of clinical study protocols;

•successful identification and acquisition of tissue samples;

•the development and validation of genomic classifiers; and

•acceptance of new genomic tests by physicians, patients and third-party payors.

Because of the numerous risks and uncertainties associated with research, development and commercialization of product candidates, we are unable to estimate our exact working capital requirements. Our future funding requirements will depend on, and could increase significantly as a result of, many factors, including those listed above as well as those listed in the section titled “Risk Factors.”

We do not currently have any committed external source of funds. In the event additional funding is required, we expect that we would use a combination of equity and debt financings, which may not be available to us when needed, on terms that we deem to be favorable or at all. To the extent that we raise additional capital through the sale of equity or convertible debt securities, the ownership interest of our stockholders will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect the rights of common stockholders. Debt financing and preferred equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, making acquisitions or capital expenditures or declaring dividends. Any disruptions to, or volatility in, the credit and financial markets or any deterioration in overall economic conditions may make any necessary debt or equity financing more difficult to obtain, more costly and/or more dilutive. If we are unable to raise additional funds through debt, or equity financings or other arrangements when needed, we may be required to delay, limit, reduce or terminate our product discovery and development activities or future commercialization efforts.

Leases

We have entered into various operating and finance leases, which are primarily associated with our laboratory facilities and office space. Total undiscounted future minimum payment obligations under our operating leases and finance leases as of December 31, 2021 totaled approximately $10.6 million, of which $1.4 million is payable in 2022 and $9.2 million is payable through the end of 2033. The leases expire on various dates through 2033 and provide certain options to renew for additional periods. We expect our lease obligations will increase in the near term as we expand our facilities, operations and headcount in support of the anticipated growth in our portfolio of commercial products and pipeline tests. Refer to Note 9 to the consolidated financial statements for additional information on our leasing arrangements.

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Cash Flows

The following table summarizes our sources and uses of cash and cash equivalents for each of the periods presented (in thousands):

Operating Activities

Net cash used in operating activities of $19.0 million for the year ended December 31, 2021 was primarily attributable to the net loss of $31.3 million, deferred income taxes of $8.7 million, recoupment of the Advance Payment of $8.3 million and increases in accounts receivable of $4.6 million, partially offset by stock compensation expense of $21.7 million, increases in accrued compensation of $6.2 million, depreciation and amortization of $3.4 million and increases in other accrued liabilities of $2.3 million.

Net cash provided by operating activities was $9.9 million for the year ended December 31, 2020 and was primarily attributable to net non-cash charges of $10.5 million (consisting of $8.3 million in stock-based compensation expense, $1.4 million of loss on extinguishment of debt, and $0.8 million in amortization of debt discount and issuance costs), the receipt of the Advance Payment of $8.3 million, increases in accrued compensation of $3.3 million and decreases in accounts receivable of $1.7 million, partially offset by the net loss of $10.3 million and increases in prepaid expenses and other current assets of $2.8 million, other assets of $1.4 million and inventory of $1.0 million.

Investing Activities

Net cash used in investing activities for the year ended December 31, 2021 was primarily attributable to our asset acquisitions of Myriad myPath LLC and Cernostics (which collectively totaled $63.2 million) and purchases of property and equipment of $3.5 million.

Net cash used in investing activities for the year ended December 31, 2020 consisted entirely of purchases of property and equipment.

Financing Activities

Net cash provided by financing activities for the year ended December 31, 2021 consisted primarily of $4.2 million of proceeds from exercise of common stock options and $2.3 million of proceeds from contributions to the employee stock purchase plan, partially offset by payment of employees’ taxes on vested restricted stock units of $0.8 million and payment of common stock offering costs of $0.3 million. We did not complete any public offerings of common stock during the year ended December 31, 2021.

Net cash provided by financing activities for the year ended December 31, 2020 consisted primarily of $330.0 million of proceeds from two public offerings of our common stock (net of underwriting discounts, commissions and issuance costs), $1.6 million of proceeds from contributions to the employee stock purchase plan and $1.6 million of proceeds from exercise of common stock options, partially offset by repayments of term debt, including extinguishment costs, of $27.4 million.

Inflation

We do not believe that inflation has had a material impact on our results of operations during the periods presented. However, recently, the rate of inflation in the U.S. has risen to levels not experienced in decades. We have begun to see some inflationary pressures, primarily in personnel and related costs. The extent of any future impacts from inflation on our business and our results of operations will be dependent upon how long the elevated inflation levels persist and if the rate of inflation were to further increase, neither of which we are able to predict.

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Critical Accounting Estimates

Our consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of our consolidated financial statements and related disclosures requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, costs and expenses, and the disclosure of contingent assets and liabilities in our consolidated financial statements. We base our estimates on historical experience, known trends and events and various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. We evaluate our estimates and assumptions on an ongoing basis. Our actual results may differ from these estimates under different assumptions or conditions.

While our significant accounting policies are described in more detail in Note 2 to our audited consolidated financial statements, we believe that the following accounting policies are those most critical to the judgments and estimates used in the preparation of our consolidated financial statements.

Revenue Recognition

We recognize revenue is recognized in accordance with ASC 606. In accordance with ASC 606, we follow a five-step process to recognize revenues: (1) identify the contract with the customer, (2) identify the performance obligations, (3) determine the transaction price, (4) allocate the transaction price to the performance obligations and (5) recognize revenues when the performance obligations are satisfied. We have determined that we have a contract with the patient when the treating clinician orders the test. Our contracts generally contain a single performance obligation, which is the delivery of the test report, and we satisfy our performance obligation at a point-in-time upon the delivery of the test report to the treating physician, at which point we can bill for the report. The amount of revenue recognized reflects the amount of consideration to which we expect to be entitled, or the transaction price, and considers the effects of variable consideration.

All of our revenues from contracts with customers are associated with the provision of diagnostic and prognostic testing services. Most of our revenues are attributable to DecisionDx-Melanoma for cutaneous melanoma. We also provide a test for UM, DecisionDx-UM. We launched a test for patients with cutaneous SCC, DecisionDx-SCC in August 2020 and launched a test for use in patients with suspicious pigmented lesions, DecisionDx DiffDx-Melanoma in November 2020. We began offering a test for difficult-to-diagnose melanocytic lesions, myPath Melanoma, following an asset acquisition completed in May 2021 and began offering the TissueCypher® Barrett’s Esophagus Assay for patients with BE following an asset acquisition completed in December 2021. Information on the disaggregation of revenues is included below.

Once we satisfy our performance obligations and bill for the service, the timing of the collection of payments may vary based on the payment practices of the third-party payor and the existence of contractually established reimbursement rates. Most of the payments for our services are made by third-party payors, including Medicare and commercial health insurance carriers. Certain contracts contain a contractual commitment of a reimbursement rate that differs from our list prices. However, absent a contractually committed reimbursement rate with a commercial carrier or governmental program, our diagnostic tests may or may not be covered by these entities’ existing reimbursement policies. In addition, patients do not enter into direct agreements with us that commit them to pay any portion of the cost of the tests in the event that their insurance provider declines to reimburse us. We may pursue, on a case-by-case basis, reimbursement from such patients in the form of co-payments and co-insurance, in accordance with the contractual obligations that we have with the insurance carrier or health plan. These situations may result in a delay in the collection of payments.

The Medicare claims that are covered by policy under an LCD are generally paid at the established rate by our Medicare contractor within 30 days from receipt. Medicare claims that were either submitted to Medicare prior to the LCD’s effective date or are not covered by the terms of the LCD, but meet the definition of being medically reasonable and necessary pursuant to the controlling Section 1862(a)(1)(A) of the Social Security Act are generally appealed and may ultimately be paid at the first (termed “redetermination”), second (termed “reconsideration”) or third level of appeal (de novo hearing with an ALJ). A successful appeal at any of these levels results in payment.

In the absence of LCD coverage or contractually established reimbursement rates, we have concluded that our contracts include variable consideration because the amounts paid by Medicare or commercial health insurance carriers may be paid at less than our standard rates or not paid at all, with such differences considered implicit price concessions. Variable consideration attributable to these price concessions is measured at the expected value using the “most likely amount” method under ASC 606. The amounts are determined by historical average collection rates by test type and payor category taking into consideration the range of possible outcomes, the predictive value of our past experiences, the time period of when uncertainties expect to be resolved and the amount of consideration that is susceptible to factors outside of our influence, such as the judgment and actions of third parties. Such variable consideration is included in the transaction price only to the extent it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainties with respect to the amount are resolved. Variable consideration may be constrained and excluded from the transaction price in situations where

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there is no contractually agreed upon reimbursement coverage or in the absence of a predictable pattern and history of collectability with a payor. Variable consideration for Medicare claims that are not covered by an LCD, including those claims subject to approval by an ALJ at an appeal hearing, is deemed to be fully constrained due to factors outside our influence (i.e., judgment or actions of third parties) and the uncertainty of the amount to be received is not expected to be resolved for a long period of time. Variable consideration is evaluated each reporting period and adjustments are recorded as increases or decreases in revenues. Included in revenues for the years ended December 31, 2021 and 2020 were $3,324,000 and $176,000, respectively, of revenue increases associated with changes in estimated variable consideration related to performance obligations satisfied in previous periods. These amounts include (i) adjustments for actual collections versus estimated amounts and (ii) cash collections and the related recognition of revenue in current period for tests delivered in prior periods due to the release of the constraint on variable consideration.

DecisionDx-Melanoma Claims Consolidation

In June 2017, we submitted to OMHA a formal request to participate in a program that OMHA developed with the intent of providing appellants a means to have large volumes of claim disputes adjudicated at an accelerated rate. The program consolidates outstanding claims at the ALJ level and uses a statistical-sampling approach where five ALJs will determine reimbursement results for a sample of claims which are then extrapolated to the universe of claims. Our consolidation includes 2,698 DecisionDx-Melanoma claims dating from 2013 through spring 2017. Hearings were held in April 2019 with a supplemental hearing in May 2019. On March 12, 2020, OMHA issued a decision denying payment on all claims in the consolidation. We have filed an appeal to the decision, although no ruling on such appeal has been issued to date. In accordance with ASC 606 and consistent with prior periods, we have not recognized (fully constrained the variable consideration) any revenues attributable to these claims in our consolidated financial statements pending the outcome of this matter.

Stock-Based Compensation

Stock-based compensation expense for equity instruments issued to employees and non-employees, including stock options, restricted stock units (“RSUs”) and purchase rights issued under our 2019 Employee Stock Purchase Plan (“ESPP”) is measured based on the grant date fair value of the awards. For stock options and purchase rights granted under the ESPP, we estimate the grant date fair value using the Black-Scholes option-pricing valuation model. For RSUs, we use the closing price of our common stock on the date of grant to determine the fair value. We recognize compensation costs on a straight-line basis for all stock-based compensation awards over the requisite service period of the awards, which is generally the awards’ vesting period, typically four years for options and RSUs and the two-year offering period for the ESPP. Forfeitures are accounted for as they occur.

Set forth below is a description of the significant assumptions used in the option pricing model:

•Expected term. The expected term is the period of time that granted options are expected to be outstanding. For stock options, we have set the expected term using the simplified method based on the weighted average of both the period to vesting and the period to maturity for each option, as we have concluded that our stock option exercise history does not provide a reasonable basis upon which to estimate the expected term. For the ESPP, the expected term is the period of time from the offering date to the purchase date.

•Expected volatility. Previously, because of the limited period of time our stock had been traded in an active market, we calculated expected volatility by using the historical stock prices of a group of similar companies looking back over the estimated life of the option or the purchase rights under our ESPP and averaging the volatilities of these companies. In the third quarter of 2021, we adjusted this calculation to include our own stock price on a relative basis to the peer group in the calculation of expected volatility, as our common stock has now been traded in an active market for more than two years.

•Risk-free interest rate. We base the risk-free interest rate used in the Black-Scholes valuation model on the market yield in effect at the time of option grant and at the offering date for ESPP provided from the Federal Reserve Board’s Statistical Releases and historical publications from the Treasury constant maturities rates for the equivalent remaining terms.

•Dividend yield. We have not paid, and do not have plans to pay, cash dividends. Therefore, we use an expected dividend yield of zero in the Black-Scholes option valuation model.

The fair value of our common stock is also an assumption used to determine the fair value of stock options. Prior to our IPO, the estimated fair value of our common stock had been determined by our board of directors as of the date of each award, with input from management, considering our most recently available third-party valuations of common stock and our board of directors’ assessment of additional objective and subjective factors that it believed were relevant and which may have changed from the date of the most recent valuation through the date of the grant, which intended all options granted to be exercisable at price per share not less than the per share fair value of our common stock underlying those options on the grant date.

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Subsequent to our IPO, the fair value of our common stock is the closing selling price per share of our common stock as reported on the Nasdaq Global Market on the date of grant or other relevant determination date.

The following table sets forth the assumptions used to determine the fair value of stock options:

The following table sets forth assumptions used to determine the fair value of the purchase rights issued under the ESPP:

Intangible Assets

Our intangible assets, which are comprised primarily of acquired developed technology, are considered to be finite-lived and are amortized on a straight-line basis over their estimated useful lives. Estimating the useful lives of our intangible assets requires considerable judgment. In determining the estimated useful lives, management considers factors such as historical experience, industry and regulatory factors, competition, patent expirations and commercial plans. If new information becomes available in future periods, we may be required to revise our estimated useful lives. If the revised useful lives are shorter than originally estimated, our future amortization expense will increase.

Contingent Consideration

Under the terms of business combinations or asset acquisitions, we may be required to pay additional consideration if specified future events occur or if certain conditions are met. With respect to the additional consideration that may be payable in connection with our acquisition of Cernostics, which was treated as an asset acquisition for accounting purposes, we account for the contingent consideration as liability in accordance with ASC 480, Distinguishing Liabilities from Equity (“ASC 480”), under the guidance for obligations that must or may be settled by issuance of a variable number of shares. In accordance with ASC 480, we record the contingent consideration initially and subsequently at fair value with changes in fair value recorded in the statements of operations and comprehensive loss each period. This liability is classified as a “Level 3” fair value measurement (as defined in Note 11 to our consolidated financial statements) due to the use of significant unobservable inputs and a Monte Carlo simulation to determine its fair value. The Monte Carlo simulation uses projections of the commercial milestones for the applicable period as well as the corresponding targets and approximate timing of payment based on the terms of the arrangement. The analysis also uses assumptions for expected volatility of the financial metrics and a risk-adjusted discount rate. The assumptions and estimates we use in the Monte Carlo simulation require considerable judgment and may change in future periods as a result of new information.

Recent Accounting Pronouncements

Refer to Note 2, ‘‘Summary of Significant Accounting Policies,’’ in the accompanying notes to our consolidated financial statements included in this Annual Report on Form 10-K for a discussion of recent accounting pronouncements.

JOBS Act Accounting Election

Previously, we were an emerging growth company within the meaning of the JOBS Act. Section 107(b) of the JOBS Act provides that an emerging growth company can leverage the extended transition period, provided in Section 102(b) of the JOBS Act, for complying with new or revised accounting standards. However, because the market value of our common stock held by non-affiliates exceeded $700.0 million as of June 30, 2021, we are no longer an emerging growth company effective December 31, 2021. As a result, we now apply public company adoption dates for new or revised accounting standards. Further, we were required to comply with the auditor attestation requirements of Section 404(b) of Sarbanes-Oxley regarding our internal control over financial reporting as of December 31, 2021.

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